Shares shrug off looming rate hikes

Stocks and bonds are marching to different beats. Shares continue to grind higher, taking a glass-half-full view of robust earnings growth and a buoyant labour market. That’s despite the clear message from the bond market, where persistent inflation, debt worries and more sellers than buyers are pushing yields higher.

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Jobs crisis…what jobs crisis?

Last week’s non-farm payroll number in the US was way better than expected - 162,000 new jobs in August, against a 55,000 forecast. July’s contraction was also spirited away, with a revised 23,000 job creation replacing a 21,000 contraction.

For almost everyone that makes a rate rise next week at the Fed’s September meeting more likely. Almost everyone. The US President sees the jobs data as another reason to cut rates next week. He said: ‘a strong country means a lower interest rate, it’s a better credit….very simple!’

It’s a point of view. Not one that’s held by Cleveland Fed president Beth Hammick. She said: ‘both the hard data and the anecdotes are telling me the same thing: policy is not restrictive. Inflation is too high - and the longer it stays above our objective, the harder it will be to bring it down.’

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A new rate-hiking cycle beckons

So, this week’s almost certain quarter point hike from the ECB could be the first of several co-ordinated rate hikes by the world’s main central banks.

The Bank of Japan is likely to join in the tightening too, under pressure from the US to support the weak yen with higher rates. Here in the UK, the mortgage market is pointing to higher rates ahead.

The prospect of higher interest rates is already showing up in rising bond yields, with the 10-year US Treasury now yielding 4.8% and the equivalent Gilt now at 5.1%.

That’s bad news for bond investors - yields move inversely to bond prices. And it should also be bad news for equity investors. Especially those holding growth shares, the value of which is determined in large part by the present-day value of future earnings. Higher yields raise the discount rate for, and so lower the value of, those future cash flows.

Glass half-full

But equity investors are so far shrugging off that possibility. Global shares have risen by 3% in the past month, buoyed by robust earnings growth and continued appetite for AI hardware shares. Both Japan and South Korea started the week on the front foot, on the back of that story.

So, the question remains: how high is too high for bond yields? And how long can shares keep moving forward in the face of those bond market headwinds?

Politics back on the radar

Here in the UK, attention is now firmly focused on the October 28 Budget, which Chancellor John Healey warned over the weekend would be another tough one.

He will make his first major speech in his new job today, arguing for state-funded financial institutions to boost investment and promote growth in the economy.

Growth remains the only viable escape route from the unpopular and unavoidable choice of higher taxes or lower spending that governments have faced, and largely dodged, for years.

Higher bond yields make the fiscal arithmetic ever more difficult here in the UK, as the cost of financing the government’s swollen debt pile rises.

Meanwhile, over the pond, the mid-term election race starts this week in earnest with a two day convention for the Republicans in Dallas. The president is the star turn. He will speak against a backdrop of the lowest popularity ratings of his Presidency as the cost of living crisis and the unloved war in the Gulf drag on.

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Important information - investors should note that the views expressed may no longer be current and may have already been acted upon. Overseas investments will be affected by movements in currency exchange rates. Investments in emerging markets can be more volatile than other more developed markets. There is a risk that the issuers of bonds may not be able to repay the money they have borrowed or make interest payments. When interest rates rise, bonds may fall in value. Rising interest rates may cause the value of your investment to fall. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to one of Fidelity’s advisers or an authorised financial adviser of your choice.