Monthly Cash Review - GBP State Street GBP Liquidity LVNAV Fund, June 2024
At the Bank of England (BoE) Monetary Policy Committee (MPC) meeting on 20 June, the base rate was maintained at 5.25%, in line with expectations. Two members of the MPC, Ramsden and Dhingra voted again to reduce rates. The decision was said to be “finely balanced”, although ultimately in favour of the status quo.
Economic Data
- Headline inflation fell from 2.3% in April to 2.0% in May, versus a BoE projection of 1.9%. This is still the lowest level since July 2021. Food inflation declined further to 1.7%. Services inflation fell marginally from 5.9% to 5.7%, an outcome that was above the BoE forecast of 5.3%. Core inflation fell from 3.9% in April to 3.5% in May, in line with consensus expectations, while core goods inflation contracted by 0.1%.
- GDP growth for April fell to 0.0% from 0.4% in March, which was slightly above consensus expectations of a 0.1% decline. For Q1 2024, GDP was revised up from 0.6% to 0.7%, driven by upward adjustments to consumer spending.
- The composite purchasing managers’ index (PMI) fell to 51.7 in June from 53.0 in May, versus consensus expectations of 53.1. Readings above 50 are indicative of economic growth. The softer outcome was driven by the services PMI, which fell from 52.9 to 51.2. The composite employment index fell to 50.3, but still remains above the key 50 level.
- The unemployment rate rose to 4.4% in April from 4.3% in March, above consensus expectations of 4.3%. Private Sector Regular Pay growth, a focus for the MPC, eased to 5.8% in April from 5.9% in March.
Outlook
In the lead-up to the UK general election on 4 July, the BoE maintained a communication blackout period. Following the MPC meeting in June, there were no forecast updates nor any additional commentary by MPC members. However, the regular Monetary Policy Summary (MPS) and Minutes provided indications about how the MPC is thinking about policy. The minutes continued to suggest “indicators of inflation persistence had continued to moderate” and that pay growth had continued to ease. The MPS and Minutes de-emphasised the upside surprise to services inflation and the role of services inflation more widely. There was also new wording to the effect that the MPC will consider all the information available and how this affects the assessment that the risks from inflation persistence are receding. The MPC also noted that "the stance of policy could remain restrictive even if Bank Rate were to be reduced" indicating that the BoE appears to be a bit more reluctant to cut rates as far and as fast as previously anticipated.
From a data perspective, headline inflation has returned to the 2% target. BoE Governor Andrew Bailey acknowledged that the MPC needs to be sure that inflation will stay at that level before cutting rates. The higher-than-expected services inflation raised concerns around persistent price pressures although this seems more likely to be a reflection of one-off effects and volatile components rather than factors that would push up medium-term inflation. April’s flat GDP print introduces some downside risk to growth relative to the BoE’s forecast for a 0.5% rise in Q2 2024, something that is also supported by the June PMI data. The BoE would prefer to see the services output PMI decline as an indication of a fall in services inflation. The labour market may be viewed as tight by historical standards but current indicators “pointed to employment growth having slowed" while "a range of pay growth indicators had continued to ease". The signs are that the BoE is willing to cut rates in August, if warranted by future economic data.
The UK financial markets have remained relatively stable ahead of the general election, possibly as the polls continue to suggest that the Labour party would likely win with a comfortable majority. Market implied rates (Figure 1) for August finished June at 5.04%. There is little difference with the implied rate for September at 4.98%, suggesting that there will be a rate cut either in August or September. The year-end implied rate moved lower to 4.75%.
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
Markets had pushed back expectations of a first interest rate cut by the BoE to November, but following the MPC meeting on 20 June, markets priced in the probability of an August rate cut at around 70%. Yields offered for GBP investments moved lower, with issuers paying 5.25% along the curve. With the fund WAM having already moved into the high 40-day range over the past month, investments during June were mostly kept short, within a one-month maturity. 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.