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Global stock markets are set to record their strongest year since 2019 following a blistering two-month rally as investors bet that major central banks have finished raising interest rates and will cut them rapidly next year.
The Stoxx Europe 600 index climbed 0.3 per cent on Friday, the final day of trading in 2023, to its highest level in almost two years. In the US, futures indicated a steady open for the S&P 500 as Wall Street’s main stock benchmark hovers just below its all-time high.
The MSCI World index, a broad gauge of global equities, has surged by 16 per cent since late October and is up 22 per cent this year, its best annual performance since a 25 per cent gain in 2019. The sizeable recent gains in stocks and bonds have been driven by a faster than expected decline in inflation in big economies, which has stoked a growing consensus that borrowing costs will fall in 2024.
The Federal Reserve added fuel to the rally at its meeting in mid-December when new projections from policymakers signalled that there would be rate cuts next year.
“Once the Fed pivoted, it really put investors into a positive frame of mind,” said Tim Murray, multi-asset strategist at T Rowe Price. “That was a big deal and it was unexpected.”
Inflation has dropped faster than anticipated on both sides of the Atlantic. US consumer prices rose 3.1 per cent in the year to November, down from October’s figure of 3.2 per cent, while UK inflation slowed sharply to 3.9 per cent, far below expectations. Eurozone inflation dropped to 2.4 per cent, the slowest annual pace since July 2021.
Traders are now pricing in six rate cuts by both the Fed and the European Central Bank by the end of 2024, a stark turnaround from the fears of “higher for longer” borrowing costs that triggered a global bond sell-off in the autumn.
The Bloomberg global aggregate index of government and corporate debt is up 6 per cent this year, having been down about 4 per cent in mid-October.
The US 10-year Treasury yield, a benchmark for global financial assets, has fallen to 3.88 per cent from more than 5 per cent in October. Yields fall as prices rise.
“Bond market investors have suffered whiplash this year,” said Sonja Laud, chief investment officer at Legal and General Investment Management. “Any data point can create a lot of volatility.”
Some investors think stock markets are now pricing in too much optimism that inflation will continue to trend lower without the US economy slipping into recession.
“I would anticipate that some of the frothiness around rate cuts will start to fade in the new year” said Greg Peters, co-chief investment officer at PGIM Fixed Income.