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May proved to be a decent month for both equity and bond market returns which were boosted by improving economic conditions coupled with anticipation of interest rate cuts by the Bank of England (BOE) and the Federal Reserve (FED) later this year.  There were some exceptions with small losses in Japanese equities and Global Government bonds however most of this was attributed to currency moves as Sterling rallied against most other developed currencies.

Within equities, both the UK and US large cap companies hit all-time highs during May.  The UK market has led the charge over the last 3-months posting gains of 9.5% and has also seen further broadening out of returns with small caps now outpacing large caps on a year-to-date basis.   The UK economy expanded by 0.6% over the first quarter of this year, surpassing expectations and marking the fastest growth in two years.  Despite upcoming UK elections on July 4^th, the market seems relatively unphased about the possibility of a leadership change given the recent advance of sterling.  European stocks also performed well posting gains of 2.5% over the month.  This was driven by improvements in economic activity with signs of recovery in both the services and manufacturing sectors as well as corporate earnings exceeding expectations.  Both Japan and Emerging Markets posted small gains in local currency terms however this was more than offset by currency moves resulting in small losses in GBP terms.

There has been a significant shift in terms of expectations around the trajectory of inflation and monetary policy across regions.  At the end of 2023, markets were expecting the US to be a ‘first mover’ in terms of interest rate cuts and had priced in as many as 5-6 cuts throughout 2024.  Fast forward to today, the European Central Bank (ECB) have led the charge cutting rates by 0.25% on June 6^th.  In the UK, headline inflation (CPI) has fallen near the Central Bank’s target of 2% however service and wage inflation remain stubbornly high at around 6% creating some uncertainty as to when the BOE will be able to cut rates.  Conversely, the chances of an imminent rate cut in the US appear to be fading with expectations of perhaps one rate cut later this year.  This uncertainty around the path of interest rates is likely to remain a source of volatility for government bond markets over the near term.  The big picture is that inflation is in a much better place than it was a year ago. We should not lose sight of this fact.

We have seen a positive start to the year for equity markets, but the road ahead will likely be bumpy as we navigate macroeconomic and geopolitical pitfalls. In any case, we are encouraged by the fact that economic activity is improving, and inflation levels are at a more manageable level then they were at their peak 18-months ago.  As always, this should present some interesting investment opportunities over the medium to long term.