Over the second quarter, UK-based investors with multi-asset portfolios experienced relatively flat returns. Despite positive performance in global stock markets, gains for UK investors were limited to just over 3% due to sterling's appreciation, which offset some of the returns. Additionally, UK equities lagged, and gilts had another disappointing quarter. The Bank of England raised its base rate to 5.0%, the highest level since 2008, as inflation persisted, causing UK bond yields to move higher and gilt prices to decline.
Market volatility has significantly decreased since March, with gauges of volatility on US stocks reaching two-year lows. Notably, well-known risks did not materialize, such as concerns about contagion in the US regional banking sector, and a last-minute deal averted a US debt default. However, events like the first armed uprising in Russia in decades serve as reminders of ongoing geopolitical instability.
Central banks remain concerned about inflation, leading to a re-pricing of terminal rates by major central banks like the Bank of England, European Central Bank, and Federal Reserve. Economic data continues to hold up better than expected, with strength in services compensating for weaknesses in manufacturing. Employment measures remain strong, although forward-looking business surveys signal caution, and the Eurozone has entered a recession.
The Bank of England's determination to curb inflation has led to notable moves in the yield curve, particularly at the front-end, with the two-year gilt yield reaching a 15-year high. Higher interest rates have impacted mortgages, causing an increase in monthly repayments for borrowers whose fixed-term deals are expiring.
Higher interest rates in the UK have boosted the pound, rising around 3% in the quarter to $1.27. This appreciation has weighed on UK large caps, leading to a slight decline in their performance since the end of March.
US stock markets outperformed their European counterparts over the last quarter due to several factors, including relative US economic outperformance, the Fed's pause in its tightening cycle, and a surge of interest in Generative Artificial Intelligence (GenAI). Companies with exposure to GenAI have experienced significant gains, although investors are cautioned about chasing hot themes and encouraged to focus on quality companies with sensible valuations.
Despite challenges like increased input costs and modest sales growth, other companies seem to be coping well, with profit announcements in line with expectations. Equity valuations are in a balanced middle ground, and investors remain optimistic about better times ahead.