Financial Update from Brewin Dolphin - 2 August 2024

August 2024

The Weekly Round-up

In our latest weekly round-up, Guy Foster, Chief Strategist, discusses fresh U.S. employment data, tech company earnings reports, and the Bank of England’s first cut to interest rates since March 2020.

What a rollercoaster ride markets have been on this week.

We discussed last week that the selling pressure didn’t seem exhausted and sure enough, it has continued with the S&P 500 spending most of the week between 5,400 and 5,500. In early June, the market gapped higher (opening and remaining above any level achieved the previous day) and that gap has held as a support level.

Although the chart patterns have seemed compelling, there have been reasons for the choppy moves as well.

As inflation concerns have dwindled, the weakness of U.S. consumers has become a concern for investors. Many companies reporting during this earnings season have cited it, supporting the assertion that U.S. households have exhausted their excess savings and are now having to tighten their belts a little.

It hasn’t been particularly evident in the macroeconomic data, but it may become more visible if the back end of this year pans out the way companies expect it to. Amazon grew sales despite seeing consumers trading down and seeking deals, behaviour it expects will continue into the third quarter.

There seems to have been a marked deceleration in the economy. Today’s employment report was below forecasts for only the fifth time in the last two years. It was the second biggest shock and the lowest initial print during that period.

The big shock in April, when U.S. jobs growth totalled a much less-than-expected 175,000, was followed by a sharp rebound in May. It seems less likely that will happen again in September because of the growing evidence of a consumer slowdown.

The UK base rate drops

The Bank of England made a start by cutting the bank rate by 0.25% to 5% on Thursday. The decision was a tight one, decided by the governor’s vote.

Consumption does not seem as soft in the UK as it does in the U.S. In part, this is reflective of wage increases, which have occurred through the increase to the national living wage and two National Insurance cuts, and will be boosted further by a more generous settlement with public sector workers.

The UK base rate drops

Going forward, fiscal policy will be less friendly to the broad economy, although to what degree is unclear. Earlier this week, Chancellor Rachel Reeves stressed again that she would not increase taxes on working families but has limited options when closing an estimated £16bn funding shortfall.

Naturally, focus has turned to savings taxes such as capital gains tax, but the Treasury’s own figures suggest that any significant increase in the rate would decrease revenue rather than increase it, as savers slowed their pace of asset sales to avoid the tax burden.

Tech companies report their earnings

Aside from consumer companies, this week also saw earnings reports from several tech companies. Microsoft were initially hit hard due to an apparent slowdown in cloud demand. However, it recovered a lot of that ground after management indicated it would reaccelerate when new capacity comes online.

Amazon also disappointed on its top line due to the weakened consumer environment but saw an acceleration in its cloud business.

Cloud revenues also grew well at Alphabet, with management commenting that the risk of underinvestment is greater than the risk of overinvestment in relation to the coming deployment of artificial intelligence (AI). These remarks probably resonate with the bulls, but also reflect the bears’ concerns that the sector will fall prey to overinvestment.

Further upstream, the market was buoyed by results from AMD, and then dismayed by those of its rival, Intel. The latter’s challenge is that, in accordance with Alphabet’s comments, technology budgets are being spent on AI to the detriment of more traditional server businesses. It would seem likely this trend would eventually be forced to reverse.

It has been a dramatic week, with lower bond yields, lower interest rates, and generally lower equity prices, but it moves us closer to an attractive entry point for stocks, and the kind of shock required to prompt a recession remains conspicuous by its absence.

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