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Monthly Cash Review - GBP State Street GBP Liquidity LVNAV Fund, February 2024

At the Bank of England (BoE) Monetary Policy Committee (MPC) meeting on 1 February, the base rate was maintained at 5.25%, in line with expectations. The vote saw a three-way split of 1-6-2, with Swati Dhingra voting for a 0.25% cut, while Jonathan Haskel and Catherine Mann both voted for a 0.25% hike.

Economic Data

  • Both headline and core inflation remained stable month-on-month at 4.0% and 5.1%, respectively, versus consensus expectations of 4.2% and 5.2%. Services inflation ticked up to 6.5% from 6.4%, but this was below the BoE’s forecast of 6.6%.
  • UK GDP for Q4 2023 declined 0.3%. When combined with the 0.1% decline in Q3, the UK economy was officially in recession, as defined by consecutive quarterly contractions. Monthly GDP for December declined 0.1%, which was better than expectations for a fall of 0.2%.
  • The composite purchasing managers’ index (PMI) increased from 52.9 in January to 53.3 in February, beating consensus expectations of 52.9 – readings above 50 are indicative of economic growth. This improvement was driven by a rise in the manufacturing output balance from 45.5 to 47.3, with the services PMI unchanged at 54.3.
  • The Office for National Statistics reintroduced the Labour Force Survey, which resulted in a downward revision to the unemployment rate for November from 4.2% to 3.9%. The rate for December then fell to 3.8%. Private sector pay growth eased from 6.6% to 6.2%, which left it above the BoE’s forecast of 6.0%.
  • Retail sales volumes in January rebounded by 3.4% from February, which outpaced consensus expectations of 1.5% growth.

Outlook

Following the MPC meeting, the BoE has removed the hiking bias and included a comment that it would “adjust monetary policy as warranted”. BoE Governor Andrew Bailey said we are “not yet at a point where we can lower interest rates” and the BoE stated that policy will remain “restrictive for sufficiently long”. The intention was to counter the idea that rates will be cut soon. Bailey said that “it is not as simple as inflation falling to target in the spring and the job being done”. The BoE continues to focus on the indicators of persistent price pressures, CPI inflation and wage growth. The timing around interest rate cuts remains dependent on the evolution of economic data – as Bailey stated, “it’s the evidence that will drive our decisions on interest rates”.

GDP data for Q3 and Q4 2023 confirmed that the UK was officially in recession. However, the BoE focus is on inflation rather than activity, and the persistence of services inflation and the higher-than-expected wage inflation. The labour market conditions remain tight, which may keep the pressure on wage inflation. The slight improvement in the composite PMI suggests that growth for Q1 2024 may be better than initially projected. Chancellor Jeremy Hunt has told Conservative Party members that the Spring Budget (on 6 March) would see him pursue “smart tax cuts” that drive growth and reward work, an approach the government hopes will be recognised in the general election later in the year. The BoE has stated that inflation should fall to the 2% target in Q2 2024, but that it will then return above the target level in Q3 2024 and remain above the target for the bulk of the next three years. Market implied rates (Figure 1) moved in line with the BoE messaging and economic data. The implied rate for March 2024 remained relatively stable, finishing the month at 5.18%. However, the implied rates for the other MPC meetings moved higher as markets tempered expectations for interest rate cuts. The implied rates for June and December moved from 4.88% and 4.05%, respectively, at the start of the month, to 5.07% and 4.56% at the end of February.

Forecast are based upon estimates and reflect subjective judgments and assumptions. There can be no assurance that developments will transpire as forecasted and that the estimates are accurate

Fund

Market volatility around the timing of the first interest rate cut from the BoE continues to get pushed further along the calendar, and the number of rate cuts expected in 2024 has also been reduced. The fund’s weighted average maturity (WAM) continues to be maintained at a 40-day range, which provides the flexibility to allow for longer-duration (greater than six months) investments to be made to lock in higher yields, whilst maintaining liquidity in shorter duration investments (less than three months). Fund liquidity requirements, both overnight and weekly, were well in excess of minimum requirements at all times. Fund liquidity was covered with a combination of government and supranational holdings, gilt repo and bank deposits. The fund credit rating exceeded requirements at all times.

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