The Cambridge Weekly- 23rd March

European gas prices rose 30% last Thursday morning after the news broke that an Iranian missile had hit Qatar’s Ras Laffan complex. Ras Laffan usually produces one fifth of the global liquefied natural gas (“LNG”) supply and is commonly regarded as one of the most complex pieces of engineering on the planet. The damage is estimated to take three to five years to repair and will cost the operating company $20bn per year in lost revenue. The price of Brent crude oil, which is highly correlated to that of LNG, reached $118 in early morning trading last Thursday. Since the war began, oil prices have risen over 50% and European gas prices have more than doubled.

Markets are becoming increasingly worried about major economies entering stagflationary environments. In periods when inflation is driven by strong demand, rising prices reflect a healthy economy: consumers spend more, businesses invest, and the employment rate is high. On the other hand, when inflation stems from supply-side pressures, such as surging energy costs, prices rise and economic activity slows, creating a much harsher environment.

US Equity Market:
The S&P 500 began last week optimistically, having climbed almost 2% into Tuesday, with Nvidia’s annual GPU Technology Conference (“GTC”) serving as an ey’s Blackwell and Rubin chip systems to reach $1 trillion through 2027 – twice the $500 billion projection made last year and far above Wall Street’s consensus estimates. Nvidia shares briefly jumped over 2.5% but gave back these gains by the end of the week.

The market’s mood soured last Wednesday after the Federal Reserve announced it would be holding rates at 3.5-3.75%. Although this was expected, it was accompanied by comments from Federal Reserve Chair Jerome Powell indicating the central bank may not make the near-term progress they had hoped with inflation, which struck a cautious note with investors. PPI rising to 0.7% in February and 3.4% annually – above expectations of 2.9% – added further fuel to this. The Fed now finds itself navigating conflicting signals: a labour market that has shed jobs in three of the past five months, and rising oil prices continuing to drive inflation fears. The S&P 500 subsequently ended the week to Friday down 1.87%.

UK Equity Market:
Last Thursday, official data revealed that UK unemployment remained at 5.2% over the three months to the end of January, marginally below analysts’ expectations of 5.3%, but still at its highest level since the pandemic. Typically, a central bank would tackle elevated unemployment by lowering interest rates. However, renewed pressure on inflation as a result of the conflict in the Middle East presents a policy challenge for the Bank of England as curbing inflation often requires raising interest rates.

Despite starting strong, the FTSE 100 topped out for the week last Wednesday, before plunging over 3.5%. The index closed the week to Friday down 3.22%.

Inflation, Interest Rates and Bond Markets:
As anticipated by markets, the Federal Reserve’s Open Market Committee elected to hold interest rates steady at 3.5%-3.75% last Wednesday. As noted previously, the announcement also acknowledged the looming upward pressure on inflation resulting from the war in Iran. Despite this increased pressure, the FOMC continue to expect to cut rates another 0.25% before the end of the year.

The BoE’s Monetary Policy Committee followed suit last Thursday also electing to hold interest rates steady at 3.75%. The MPC warned that a severe energy shock could quickly feed into prices, and prompted expectations for interest rate cuts to change significantly. Prior to the conflict, markets were expecting two quarter point cuts from the BoE over 2026, however, markets are now pricing in three interest rate increases. These changing investor expectations pushed gilt yields up, with the two-year – which is typically more sensitive to interest rate expectations – rising 0.25%, while the ten-year climbed 0.09%. The two-year is now up c.95bps since the end of February.

Elsewhere, the European Central Bank, the Bank of Japan and the Bank of Canada all elected to hold interest rates steady last week. Each bank cited the elevated geopolitical uncertainty as the key driver of the decision.

What’s on the horizon
The dominant focus for markets will continue to be the developments in the Middle East and the implications of an extended conflict on global energy prices. Whether a diplomatic resolution is reached in the coming weeks will play a big part in determining global inflation, interest rate and growth trajectories. On the macro front, the UK is due to release CPI data today, while the US will release its Manufacturing Purchasing Managers Index (PMI) on Tuesday. PMI is a leading economic indicator gauging business activity in the sector.

Who succeeds Jerome Powell as the Federal Reserve Chair also remains a point of note. With Powell’s term set to expire in May, the US President has already nominated his preferred replacement in Kevin Warsh – a move broadly welcomed by markets. However, Warsh’s confirmation is not yet guaranteed, and Powell has confirmed he will remain in post temporarily should the process not be concluded in time – adding another layer of uncertainty to an already turbulent period for US monetary policy.

The Cambridge Team

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Source of financial market data: MorningstarDirect.