Market Update 10th October 2022

Climbing the ego ladder

Last week was not especially helpful. Not only did OPEC deliver a spiteful proposal for a record cut in oil production, but on Friday equity markets sank after the publication of the uncontentious latest data about employment in the United States. If the intention of the Central Banks has been to frighten the living daylights out of markets, they should give themselves a resounding pat on the back.

In fairness, that is not quite true. We must reinforce the difference between the Bank of England and the Monetary Policy Committee. The former has an additional responsibility for market stability, which makes Andrew Bailey’s role as boss of both parties quite difficult to fathom. To further the fairness, the MPC has also had a very considerable helping hand from the UK government, albeit the latter has been by accident rather than by design.

The dynamic between the Bank and its Monetary Policy Committee is going to fizz for a while longer. The latter’s plan for quantitative tightening has been holed below the waterline by the near carnage in the gilt market over the past 10 days or so, and the Bank’s subsequent need to stabilise the pension funds. The corollary of this is that the MPC is left with the solitary weapon of interest rates and that it will feel that it needs to be even more aggressive in raising these. Those allegedly in the know are suggesting that the next increase in bank rate, which is scheduled for 3^rd November, will be an extraordinary 1.25%. That, as they say, is going to hurt.

Let us return to OPEC and geopolitics. The tea leaves had been suggesting that something was up after it was confirmed that last week’s meeting in Vienna would unusually involve everyone actually going to Vienna, rather than zooming. That said hold onto your horses and brace for a cut of a million barrels per day. Wrong. By a factor of 100%. OPEC is to cut by 2 million barrels a day. To be fair, again, strictly speaking this is ‘OPEC+’, which also includes Russia.

As we said at the start, this is unhelpful and the price of oil has duly risen by around $10/bbl over the past week. As ever with OPEC, though, little is quite as it seems. In terms of an organised cartel, OPEC leaks like a proverbial colander. This is more about the ego of Mohammed bin Salman, the Crown Prince and now prime minister of Saudi Arabia. This is, one might argue, a very deliberate intervention into the upcoming US mid-term elections. After President Biden very publicly went to Saudi in July to ask for production increases, this is close to global humiliation for him and must give the much more Saudi-friendly Republicans a big boost. It will also gain MBS, as he is known, a whole basket of brownie points in Moscow. He has moved several rungs up the ladder of global egos.

The fact that global oil production is unlikely to fall by anything close to the headline will be important, eventually. In the shorter term, however, the markets also have to face the rapid re-escalation of conflict in and around Ukraine. The stream of Ukrainian military successes has resulted in Russia’s appointment of General Sergey Surovikin to lead its campaign. If past performance is any guide to the future, Surovikin’s leadership is going to lead to a very unpleasant new phase for the war.

Asides from oil and energy, this is set to be another very busy week. On Thursday we have the latest update to the US inflation rate. Expectations again are for a fall in the annual rate. We would never hazard a guess whether this will be right or wrong, but from the reaction to the previous month’s data, and to the quite inoffensive employment numbers last week, any form of disappointment is going to go down badly. Investors will be warmed up the previous evening, when the minutes from the last FOMC meeting will put some more flesh on the bones of the Federal Reserve’s determination to raise interest rates as fast as it feels able.

We also have the start of the earnings season for the third quarter: the time when companies reveal how they fared over the three month period and, hopefully, their expectations for the immediate future. Here, at least, expectations are low. According to FactSet (frequently seen as the definitive source for this information), the companies that comprise the S&P 500 Index are expected to have increased their after-tax profits by a mere 2.4% in the quarter. As recently as July, the belief was that the quarterly growth would be as high as 9.9%. There is a good chance that US businesses will be performing better than is predicted. What is trickier to anticipate is whether this will be seen as a positive, or as an indicator that the Fed will need to be even more resolute in its raising of interest rates.

Jim Wood-Smith – Market Commentator and Head of Climate Transition

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