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Did we just witness a glimpse into the future?

Market Activity

Did we just witness a glimpse into the future?

What will happen when inflation looks like it's slowing down?

October 10, 2022

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A sign of things to come?

It's hard to see it but last week actually held some good news in it.

Last week the markets gave us a glimpse of what will happen when central banks finally start listening to a slowing economy.

Stocks didn’t go down on Friday just because they had gone up at the start of the week. Yes, sometimes that does happen, but not this week.

On Monday and Tuesday the market got an indication that central banks might take their feet of the economic brake (in this case that is raising interest rates).

Early Tuesday morning while we were all sleeping, the Reserve Bank of Australia lifted its benchmark interest rate by less than expected, defying expectation of more aggressive action to tame high inflation.

This move of 0.25% was half what markets had expected, suggesting officials are wary of hitting the brakes too hard and tipping the country into recession amid slowing global growth. The move by the RBA took the cash rate – the rate commercial banks are charged for loans, which in turn affects the cost of mortgages and other borrowings – to 2.60%, its highest since 2013.

In a statement Governor Philip Lowe said rates had already risen ‘substantially in a short period of time’ while the economy was facing growing uncertainty.

He acknowledged that high inflation was putting pressure on household budgets, but that higher interest rates would also make for higher mortgage rates and therefore could be doing more harm than good.

The Australian equity index, the ASX 200, rose 3.8 per cent on the back of the decision as the rest of us woke up to the news.

Australia might seem a long way away, but if the Bank of Australia could do it, then maybe other central banks could do it. Why do all the central banks think raising rates and creating a run on borrowing could possibly be a good thing?

Their central mandate is to curb inflation, but at what cost? If they keep going, the consequences of their actions will be global recession and corporate defaults. They must know this.

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It is this line of thinking that is causing some analysts to say that the FED, and other central banks around the world, may well do less than they are currently suggesting.

So, what’s the good news? It is not just that hiking slightly less than the market is currently pricing is a possibility, but also the market’s reaction to what happened in Australia. Global markets soared showing what they really want to do, if allowed.

Yes everyone is cautious, but when inflation shows any sign of dissipating, we are in for a huge rally off the back of it. How far and when it will happen is still anyone’s guess, but what we saw at even a hint of slowing is a good sign for when we get the real thing.

Disappointingly Friday’s jobs numbers in the US were strong and unemployment hit an all-time low; I say ‘disappointingly’ because if the economy doesn’t start to show signs of stress, then the Federal Reserve won’t follow Australia’s lead.

It sounds odd, and this is what makes it so hard to trade right now, but we need the economy to slow down, and people to lose their jobs before the FED will listen. Until then, they will keep on raising and raising to curb inflation.

What happens elsewhere in the world takes a backseat in this case. The US must stop raising rates or the dollar will continue to strengthen and global markets won’t be able to bounce.

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Having said that, markets did end the week higher. Any way we look at it, this is also good news. It may have been a tumultuous week with a fantastic rally followed by a horrible crash, but ultimately, we are higher than we were.

At 21.00 hours on Friday night, the December FTSE future closed at 6989, slightly lower than the cash close but still up 1% from last Friday night.

All eyes will now be on this Thursdays CPI figure which will tell us if inflation is coming down, or whether the rate rising cycle must remain on track for now. All we can do is hope, as one thing nobody can tell you yet is what that number will be.

With a new week about to open in European stock markets, it will be interesting to see how the market reacts to data this week. If the markets can rally on any sign that inflation is slowing, moving forward- there might be quite a rally in store. Investors just need to ride out the storm in the interim period.

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