As we reach the end of the third quarter, equity markets have remained resilient despite heightened geopolitical tensions, persistent inflation, rising government borrowing costs and higher oil prices. Global markets remain close to their highs, supported by generally robust corporate earnings. Geopolitics is now a direct market influence rather than background noise. Events in the Middle East are affecting energy prices, inflation expectations and bond markets, while relations between the United States, China, Russia and Europe continue to reshape supply chains, defence spending, energy security and industrial policy.
The inflation outlook therefore remains complicated. Although earlier pressures have eased, higher energy prices and continued government spending mean central banks cannot yet declare victory. High public debt is also pushing up the compensation investors require for lending over longer periods, making the third quarter particularly difficult for long-dated government bonds.
Short-dated government debt still offers attractive yields, alongside useful income, capital visibility and diversification. Short-dated gilts trading below their redemption value remain particularly tax-efficient for UK taxpayers. Much of the return comes from a capital gain that is generally exempt from Capital Gains Tax, while potentially offering a better overall return than cash held on deposit. We remain cautious about significantly extending duration, as inflation and heavy government borrowing mean investors may not be adequately rewarded for the additional interest rate risk.
Equities have remained resilient. Artificial intelligence, semiconductors and data centre investment remain important, but the opportunity extends beyond the most obvious technology companies. The infrastructure required through electricity generation, grids, cooling systems, industrial equipment and raw materials, supports selected mining and industrial businesses, particularly those exposed to copper and electrification. Higher defence spending and efforts to rebuild domestic capacity reinforce this renewed focus on the physical economy. There are potential opportunities when looking beyond headline beneficiaries towards the companies supplying the essential resources, equipment and infrastructure behind these long-term investment themes.
Returns have been broader-based rather than dependent on one company or sector. Technology has contributed, alongside financials, industrials, defence, commodities and selected international markets. This breadth is healthy and, although elevated markets warrant some caution, corporate profitability continues to provide fundamental support. Continued merger and acquisition activity in the UK also suggests that international buyers recognise the attractive value available in UK-listed companies relative to many overseas markets.
In the United States, attention is turning to the midterm elections, set to be held on 3rd November. Cost of living, economic and foreign policy concerns have made the environment more difficult for Republicans, and a Democratic gain in the House could produce a divided government. The Republicans have far greater financial resources to utilise against a divided Democrat party, so the result is difficult to call. Markets however will focus less on the result itself than on the implications for fiscal policy, borrowing, trade and bond yields.
Closer to home, Andy Burnham’s new Government faces a difficult balancing act. The Bank of England held the Bank Rate at 3.75% in September; with inflation still above target and energy risks elevated, expectations for rapid rate cuts should be treated cautiously. Attention now turns to the Autumn Budget on 28th October, where markets will seek reassurance that the Government can fund its priorities without undermining confidence in public finances.
Speculation around taxation, pensions, investment incentives and public spending will intensify ahead of the Budget. Looking towards year end, the final quarter is likely to be shaped by geopolitics and oil, inflation and interest rates, government debt, the US midterms, the UK Budget and whether substantial investment in artificial intelligence and data centres translates into earnings growth. Valuations are elevated in some areas, geopolitical events are unpredictable and bond markets are reminding governments that borrowing has consequences. Nevertheless, corporate earnings remain solid, businesses are investing, technological change is creating opportunities and lower-risk assets once again offer attractive income.
In this environment, a balanced portfolio remains particularly valuable. High-quality equities, short-dated government debt and selected alternative investments such as gold and infrastructure investments allow participation in long-term growth while providing an element of inflation protection and resilience during periods of market volatility. With the Budget now firmly in focus, we remain focused on preserving and growing clients’ capital through a wide range of market conditions.
The value of securities and the income from them can fall as well as rise. Past performance should not be seen as an indicator of future returns. All views expressed are those of the author and should not be considered a recommendation or solicitation to buy or sell any products or securities.
