Interactive Investor

Market snapshot: Federal Reserve delivers clarity on policy

16th December 2021 08:07

Richard Hunter from interactive investor

UK stocks have reacted positively to the Federal Reserve's decision on stimulus and interest rate policy overnight. Our head of markets rounds up the action.

Confirmation that the Federal Reserve is to tap slightly harder on the monetary brakes was both expected and well received, as investors appreciated the increased clarity of the road ahead.

The tapering programme should now end in March, easing the way to introduce interest rate hikes in an effort to curb inflation, which is now running hot. At the same time, the Fed left the door open not only to consider the impact of the Omicron variant as the economic damage becomes clearer, but also noting that maximum employment was required before hikes could be entertained.

Investors also took solace from the comment that the US economy no longer needed increasing amounts of monetary support, implying that growth could be sufficient to withstand the impact of the removal of stimulus and, in due course, marginally higher interest rates.

The improvement in sentiment following the Fed comments enabled the main indices to resume their onward march and, with just a few days remaining in the 2021 trading calendar, the Dow Jones is now ahead by 17.4% in the year to date, the S&P500 by 25.4% and the Nasdaq by 20.8%.

The UK interest rate decision later today is poised on a knife edge, with the implications of the variant, high inflation, continued pressure given tightness in the labour market and supply chain bottlenecks all being taken into consideration. While any such hike would likely be moderate, and with a time lag until it washed through to the wider economy, it would nonetheless signal that inflation needs to be tackled.

Even so, the current uncertainty regarding the variant threatens to derail the UK’s economic recovery and the consensus remains that the Bank of England will sit on its hands until the February meeting when the picture may be clearer.

In the meantime, the UK market has taken its lead from a strong performance on Wall Street and a fair wind blowing through trading in Asia. In early exchanges, the main indices were marked higher as investors sought to digest the news that recovering economies next year need not be damaged by tightening monetary conditions, providing that current (and future) variants can be managed to mitigate economic fallout.

Initial beneficiaries of the improved sentiment included the miners and airline-related stocks, with other cyclical shares also attracting interest. The mark-up was generally broad based as investors sought to benefit from recent share price pressure.

The UK remains attractive to overseas investors on valuation grounds, and the year to date performances of the main indices have also been boosted by a return to decent levels of dividend yield, adding to the real return. On a simple basis, the FTSE100 is now ahead by 12.3% in the year to date and the more domestically focused FTSE250 by 10.8%, both of which would mark a decent return in 2021 given the multitude of constraints with which investors have had to deal.

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