Globally the main news event last week was the latest monetary policy meeting at the US Federal Reserve (Fed). It wasn’t so much the actual decision (interest rates and the amount of bond purchases each month were both unchanged) as the next steps that investors were on the lookout for. The Fed raised both its growth and inflation forecasts for 2021 and 2022 although investors were a little unnerved by changes in the pattern of its latest ‘dot plot’ – a visual representation of where Fed members see interest rates progressing over the next number of years. This latest set of dots showed Fed members anticipating two interest rate increases in 2023 which was more aggressive than investors had expected and caused something of a selloff in equity, bond and commodity markets.
We were slightly surprised at the negative reaction, especially since inflation has been rising and investment markets had already been pricing in rate increases in 2023 – our chart of the week shows that the Fed Funds futures market has been signalling one rate hike in 2022 and two further hikes in 2023 over the past few weeks. Do investors really expect the zero-interest rate environment to go on forever? In our view the big picture message is that the US economy is recovering rapidly which is good news even if it means gradually higher interest rates over time.
Domestically we saw the impact Ireland’s reopening has on its economy through the release of the May construction purchasing managers index which moved back heavily into expansion range, rising sharply from 49 in April to 66 last month (readings of greater than 50 indicate a growing sector). This is good news from both an economic and housing perspective although the pickup in construction activity is unlikely to halt the short term grind higher in property prices which the CSO confirmed at 4.5% in the year to end April compared with 3.7% the previous month.
Chart of the week
As noted above equities endured a tricky period, moving lower as the Fed appeared to bring forward its timelines for interest rate increases. As with the last cycle we think the path to higher interest rates will be very gradual and well-choreographed by central banks so as to avoid destabilising equity and other investment markets. However with investors now thinking about the path towards higher medium term interest rates, this will put a much greater emphasis on improving stock market profits and cash flows as a driver of further equity market gains in the next number of years.
The bond market bore the brunt of the Fed’s apparent midweek hawkishness with US ten-year government yields rising nearly ten basis points (0.1%) to 1.57% although the upward pressure on yields abated late in the week. In Europe sovereign yield moves were much more muted and incredibly Greek five year bond yields turned negative last week having been above 60% back in 2014 which makes you question how much credit fundamentals actually matter to bond market pricing anymore in the midst of all the central bank bond buying. Across the sectors, inflation adjusted bond yields were the main underperformers as yields climbed for these bonds more than for their nominal counterparts.
The commodity sector and metals in particular were collateral damage arising from last week’s bond market volatility and the stronger dollar which had its best week in around nine months. In the precious metals space gold and silver suffered as the Fed’s economic outlook brightened and real bond yields rose (as gold produces no income, increases in ‘real’ bond yields often cause pain for gold prices). Meanwhile base metals such as copper also dropped as China’s top economic planner (the National Development and Reform Commission) announced it would release metals from China’s state reserves in an attempt to cool prices for metals like copper, aluminium and zinc which remain vital for China’s economic development.
Kennedy Wilson development shows enduring confidence in Dublin office market.
There has been a significant sign of confidence in the future of offices in Dublin by Kennedy Wilson and Cain International who, as per the Irish Independent have initiated the work on a major new city quarter at Coopers Cross located to the rear of the Central Bank’s headquarters on North Wall Quay. The scheme will include 395,000 square feet of prime commercial space split into two blocks with the smaller block due for completion in early 2023. The development will also include the largest outdoor public park in the North Docks. The scheme is proposed to be one of Ireland’s most sustainable commercial developments.
Do ESG factors play a role in the Multifamily Property Market?
A report published last week by CBRE on the role of ESG in the Multifamily Property Market has examined how investment in sustainability measures will impact on the cost, viability and deliverability of rental product in the years to come. The report also studies whether the end-user wants, expects or is willing to sustain higher rental costs for more sustainable accommodation. Within the commercial real estate market, it has become evident that investors and financiers are favouring the greenest and most sustainable buildings, however the multifamily market is different, particularly in one as dysfunctional as Ireland’s, where the cost of rent is the primary determinant in their choice of where to live. However, the report found that in locations where supply and demand are in broad equilibrium, sustainable multifamily developments should generate higher rents and demonstrate higher occupancy than competing schemes that don’t have equivalent ESG credentials. The key challenge in improving sustainability in the residential sector will be affordability which is where Ireland still has a road to travel.