Andrew Miller: Markets react to central bank moves

In spite of another Portuguese political meltdown and more astonishing scenes in Tahrir Square, Egypt, the most recognisable fingerprints on markets last week were again those of the central bankers

In spite of another Portuguese political meltdown and more astonishing scenes in Tahrir Square, Egypt, the most recognisable fingerprints on markets last week were again those of the central bankers.

On Thursday, central bank chiefs in the eurozone and the UK went to near-unprecedented lengths to talk down their regional borrowing costs – with mixed success.

The most important recent development for global bond markets was the change in stance from the Federal Reserve.

As in 1994, the Fed’s more hawkish posture has resulted in rising borrowing costs outside of the US. So far the effect is significantly less pronounced, but the fear that rising borrowing costs will choke off the more tentative economic recovery in Europe is understandable.

However, there are other important influences on the bond market to be aware of. First, particularly in the UK, but also in the eurozone, a rash of brighter economic data continues to point to a slightly better second half of the year.

Second, in the past six months in particular, investors' perception of the risks facing the global economy has altered noticeably.

This shifting mood can be seen in the rapid ascent of equity markets and the continuing plight of gold, but also in the rising borrowing costs of perceived safe-havens.

Although the new guidance from Europe's central bankers suggests that base rates will not be moving for some time, long bonds are likely to be more responsive to news out of the US where the economic recovery rests more comfortably on the broader shoulders of the consumer.

For investors, there are several points to take away from this week.

One of which is that no matter what regional central bankers may say, government bonds around the world are preparing for US monetary normalisation, which is why we suggest an extremely low exposure to the asset class for our clients.

The prospect of US monetary normalisation will continue to reverberate across asset markets for a while yet.

However, our recommended positioning reflects our belief that rising medium-term growth prospects for the US is a good thing for developed market equities.

:: Andrew Miller is a director of Barclays Wealth and Investment Management in Newcastle

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