MPC Meeting

All eyes will be on The Monetary Policy Committee’s (MPC) interest rate setting meeting, which is scheduled for today, August 6. The market is anxiously trying to gauge whether UK interest, which have been held at historic lows of 0.5 percent for the longest period in history, are going to rise either sooner, say towards the end of 2014 or sometime later in 2015. Certainly, yesterday’s release of the UK’s Purchasing Managers Index (PMI) survey, which exceeded all expectations comes as a relief for those traders betting on a rate rise before the end of the year.

Yesterday’s PMI, an economic indicator derived from monthly surveys of private sector companies, was bullish at 59.1 percent, bearing in mind that a figure of 50 percent indicates a cutoff level separating expanding from contracting services. So the latest PMI indicator suggests that the trajectory for UK service industry is both upwards and momentous. Indeed, Britain’s service sector was stronger than expected in July, with activity rising at the fastest rate in eight months according to the Markit/CIPS PMI. 

The service sector amounts to more than 75 percent of UK’s Gross Domestic Product (GDP) and it including hotels, bars, restaurants, IT, transport and business services. Such an upbeat PMI data is further evidence that the UK’s economic recovery is gaining traction. The PMI data follows the UK’s April-June Gross Domestic Product (GDP) which showed GDP expanding by 0.8 percent during that period. Reaction on the foreign exchange markets was predictable with the pound rising against the dollar and the euro after the survey was published. 

Interest rate hawks are now screeching louder for rate hikes. Many investors/traders are now wondering, in view of the recent upbeat economic data, whether these calls for a spike in rates has now finally gained the ears of the MPC. To date the Bank of England’s MPC has unanimously voted for interest rates to remain pegged at 0.5 percent.

However, while the latest PMI figures are upbeat it may actually be a red herring for the MPC when weighing up whether to go with the interest rate hawks and raise rates. It’s worth mentioning that the PMI is merely a survey, which doesn’t amount to any official economic data. Indeed, the survey is not totally comprehensive as it excludes retailing, energy and government-provided services. Moreover, in recent times it also tended to point to rather stronger growth than the official data from the Office for National Statistics (ONS). 

Nevertheless, assuming the MPC weighs heavy on the bullish PMI survey, they may have good reason to do so this time around since it is in harmony with April-June GDP figures showing an expansion of 0.8 percent. But the UK economic recovery is patchy. For example, manufacturing barely registered an increase to just 0.2 percent and construction activity fell to 0.5 percent during the same period. Moreover, both Industrial output and construction are down by 10 percent respectively, since the financial crisis. If MPC decides to set interest rates above 0.5 percent towards the latter part of 2014 the impact on already these struggling sectors would be adverse. Higher interest rate for industrial manufacturing implies higher investment costs as the cost of borrowing is increased. Furthermore, higher interest rates trigger a flight of “hot money,” speculative money into the pound, thereby appreciating its value against a basket of other currencies. The appreciating pound make it increasingly more difficult for UK manufactures to sell overseas, hitting exports as UK manufactured goods become more expensive and less competitive in foreign markets. 

The latest June UK British Industrial Output figure underscores the problems, output for industry as a whole rose 0.3 percent in June, lagging a forecast of 0.6 percent, according to ONS. Industry continues to struggle following the financial crisis 2008 and a further appreciation in the pound, brought about by higher interest rates would further hamper UK exports.

To some extent the bullish PMI survey is a double edged sword for the MPC because it highlights the growing problem of an unbalanced recovery in the UK economy and the complications of implementing monetary policy in such an economic environment. 

On the one hand an excessive lengthy period of low interest rates might be fueling a speculative bubble in equity, bonds and property price creating inflation in certain sectors of the economy, but to raise interest rates now would clobber the already feeble UK industry output. It’s a complicated situation-what is good for the goose isn’t good for the gander.

For too long policy makers have wrongly believed that as advanced economies matured and developed there would be a natural transition from the manufacturing sector to services. Every economic powerhouse today, Germany, USA, Japan, China has manufacturing as the backbone of their economy. It is the manufacturing that should drive the economy, which then results in a demand for services and not the other way around. Outsourcing manufacturing to China has not only resulted in technological transfers, which has directly damaged the manufacturing sector in developed economies, but it has also indirectly damaged the service sector too. As developing economies strengthen their manufacturing sector, they also develop their own service sectors, banking, insurance etc and leave developed economies in the cold. Maybe this is why Former US Treasury Secretary Larry Summers believes that there is a , “long-term, “secular” stagnation of the developed economies.”

MPC will no doubt be gauging the adverse effects that rate hikes could have on UK industry. Perhaps the hawkish screeches for interest rate rises might just be all in vain. Time will tell.

UK's June Inflation

The Office for National Statistics (ONS) had another surprise for the markets on Tuesday, this time it was the Consumer Price Index (CPI), which grew by 1.9 percent in the year to June 2014, up from 1.5 percent in May. The latest June CPI, an official measurement of inflation, is now hovering close to the Bank of England’s (BOEs) annual inflation rate target of 2.0 percent, so all bets are now on an imminent interest rate rise in the UK. Indeed, the market’s reaction to the surprising jump in June’s CPI figures was predictable; there was a flight of hot money into sterling in search of a higher return, thereby pushing the exchange value of the UK pound further against the USD to a session high of $1.7133. The UK pound also appreciated against a basket of other currencies. Moreover, the price of UK bonds fell sharply on the bond market as traders fled UK bonds in anticipation of a rate rise before the end of the year. So markets have now priced in an interest rate increase, from a record low, to 0.5% interest base rate by the end of the year. 

The latest June CPI figure, released by the ONS on July 15, confirmed that British inflation has now surged to a five month high last month. The main reason behind the sharp rise in the May to June inflation rate has been price increases in food & non-alcoholic drinks; however, the figure is now little changed on the year to June. A variety of product groups notably fresh vegetables, bread and cereals, contributed to the monthly inflation rise in foods. Also the price increases in clothing, particularly women blouses and shoes, also added to the rise in June’s inflation figures. The relatively good weather throughout the May-June period could have resulted in retailers deterring price discounts as the sector decided to cash in on the cloth shopping spree, brought about by the fine weather. Air transport also registered a big month to month hike in prices, according to the ONS. Air fares rose between May and June 2014. The movements were primarily driven by changes in fares on European routes, according to the ONS report. The ONO June CPI report also added, that prices in the housing, water, electricity, gas & other fuels sector continue to have the largest upward effect on inflation, which have contributed around a quarter of the total June CPI figure. Alternatively, motor fuels currently have a downward pull on inflation. Average petrol prices were around £1.30 in June this year compared with £1.34 a year earlier.

But the June CPI figure of 1.9 percent did come as a bit of a surprise for the market. A recent poll conducted by Reuters indicated that economist had forecasted a small rise of inflation to just 1.6 percent. However, the question puzzling economist is whether the June CPI figure is just a monthly blip or further evidence of the UK’s upward trajectory for inflation this year, which would also mark the end of Britain’s historic period of low interest rates. "It currently looks a very close call as to whether the Bank of England will raise interest rates at the end of this year or hold off until early-2015. Indeed, there will undoubtedly be many swings in interest rate expectations over the coming weeks and months," said Howard Archer, economist at IHS Global Insight.

Indeed, the common belief that economists can’t agree on anything important is probably more than ever relevant to them forecasting the UK inflation rate and interest rates. One school of thought is that the June CPI figure is merely noise and that reading too much into a monthly set of figures is really a distraction when trying to forecast the UK inflation trajectory. This reasoning may hold water, after all clothing and air fare prices are usually volatile and one month’s inflation data alone cannot completely change the overall trend. Adding support to this view was an official from the ONS who said that there were signs that the good weather last month may have deterred retailers from cutting prices. Elizabeth Martins, an economist with HSBC, also added that the clothing effect was likely to be smoothed out in July's data. 

Moreover, the recent data shows that producer costs continued to fall last month and that there was barely any rise in what they charged customers in the so-called "factory gate prices". There’s also unlikely to be any wage type inflation, as the latest figures on pay are widely expected to show wage rises continuing to lag well behind inflation, in other words falling in real terms. Furthermore, the steady appreciation in sterling since the beginning of the year will be lowering the price of imports, thereby exerting downward pressure on inflation. "In the near-term, inflation is likely to remain subdued with the producer price inflation figures highlighting a lack of pipeline price pressures while remarkably low wage rate numbers also point to little near-term inflation threat. The strength of sterling will also help limit the upside for inflation," said James Knightley, economist at ING Financial Markets.

But not all economists see it that way. Referring to June’s CPI data, Chris Williamson, chief economist at data specialists Markit said, "The news will further fuel expectations that the Bank of England will start raising interest rates sooner rather than later, with November looking the most likely month for the first hike," said Chris Williamson, chief economist at data specialists Markit. Apparently, Markit’s survey is showing activity picking up.

However, if housing prices cool down in the months ahead, then probably the CPI June figures are just a temporary blip on the radar, meaning that future inflation rates could be within the BOE inflation target of 2 percent and therefore, no interest rate hikes in 2014 would materialize. The likely fall in real wages, the appreciating pound, the spare capacity in the economy and the frail euro zone recovery may put a damper on future inflation figures. So maybe the market has jumped the gun in anticipating pending interest rate rises.

Trading Information

 A volatile market for the trader is like waves for the surfer, without it neither can get a free ride. Facts, rumours and economic data all contribute to volatility in the market; they are the trader’s waves. With that in mind, having your eyes focused and ears tuned to the type of information that’s likely to be market sensitive can be rewarding for the trader. So being able to gain rapid access to this type of information from a reliable and accurate source not only makes a lot of sense, but it could also make you money and enhance your trading performance.

The Regulatory News Service (RNS) provided by the London Stock Exchange is an excellent and reliable source of news information for traders, furthermore, it is free. For the last three hundred years the London Stock Exchange has produced detailed information for companies and investors alike. Moreover, the advent of technological innovation over the past decade has transformed this service from a twice-weekly paper publication for the London business community to a real time news flow of continuous electronic information to the world’s financial markets. In 2008 RNS redeveloped its technology platform which improved data submission and display of announcements to the market in XHTML formatted data output. Today, RNS is the leading specialist provider of regulatory disclosure distribution services to UK listed and Aim companies. For companies, RNS is a one shop stop for them to fulfill their regulatory obligations and communicate with global investors and for the investor RNS is the authority for reliable and accurate corporate news. Approximately, 250,000 announcements are published by RNS per year, according to their website. Additionally, over 70% of all regulatory and potentially price-sensitive UK Company announcements, emanating from leading FTSE companies, originate from RNS. RNS is used by many financial journalists for reliable news providers such as the FT and Reuters. RNS website can be found at; http://www.londonstockexchange.com/exchange/news/market-news/market-news-home.html .

Having rapid access to information relating to directors’ dealings in their company shares is also useful; this is known as “insider trades,” or “insider dealings.” Don’t confuse this with the other illegal activity of insider dealing, which is when the trades are made on information gained prior it being released to the market. The rules on insider trading are complex and do vary from country to country and enforcement varies greatly, depending on the jurisdiction where the white collar crime was committed. Nevertheless, we will concern ourselves with the legal insider dealing. What distinguishes this from the other illegal market activity, in a word, is when the trade was made. If you trade on publicly available information then that is perfectly legitimate trading. There are literally thousands of insiders trades, directors buy or selling their company’s shares on a daily basis. As the saying goes, “the view at the top is always better.” So when a director increases their shareholdings in their own company this is often perceived by the market as a bullish signal and visa versa. However, it is not always a master plan when deciding whether to go long or short on a stock because it may be the director’s strategy to buy stocks with the aim of propping up the company’s share value. So the increase in share price may be tied to no real fundamental reasons, such as the improved competitiveness and profitability of the company. Or a Director may be selling his own shareholdings to buy a holiday home, a luxury yacht etc. Nevertheless, insider dealings could be a useful gauge, particularly when it’s combined with technical analysis. Additionally, this information is publically available for free. The website; http://tiptrades.com/ provides daily updates of insider dealings. “We keep you connected with insider buying and selling alerts directly to your mobile, device,” claims the founder of the website and it prides itself of giving you the data without having to spend hours trying to find it. 

Mergers and acquisitions activity moves the market. The idea is to try and identify target companies, those likely to be taken over, and buy stock in them before they have been acquired, often by a rival company. It’s not uncommon for the share price of target companies to rise by double digits during the course of just one week. So by keeping abreast with mergers and acquisition activity, then acting appropriately on the information might turn out to be a lucrative trading strategy. For mergers and acquisition news relating to US stocks checkout the website http://www.streetinsider.com/Mergers+and+Acquisitions. It has been recommended as the best source for mega merger and acquisitions on Wall Street. The founders claim to have been tracking Mergers and acquisitions of companies on Wall Street since 1999. The premium service provides email alerts with the aim of giving you a trading edge. 

Then there is macroeconomic data that can also be useful. It’s always best to drink at the source, so check out the government websites. For the UK; The Office for National Statistics (ONS) is a reliable source and it can be found at the following address; http://www.ons.gov.uk/ons/index.html. For US; Marco economic data the most reliable source is the Federal Reserve Bank website; http://www.newyorkfed.org/research/calendars/nationalecon_cal.html. This will provide you with the date and time of the key economic events and the available links will direct you directly to the data source.

It might also be prudent to reconcile your trading decisions with some technical analysis. For example, take a hypothetical case where you receive a news alert about insider dealing, a company director buying shares in his company, but the charts are indicating a clear sell signal. The share then falls due to a negative trading statement, later released by the company. Had you not decided to buy you would have avoided a loss. This simple example underscores the importance of combining your trading decisions with analytical software. Typically the best analytical software available is designed by traders http://winwaycharts.com/Tradingexpertpro.html is gaining rapid popularity.

UK Output. What's Going On?

The Office for National Statistics (ONS) raised eyebrows amongst analysts on Monday when it reported a drop in its production index of 0.7 per cent, between the months of April and May. Contributing largely to the fall was a plunge in factory output from April, which represented the largest contraction since January 2013 and the first decline in six months according to a spokesperson from the ONS. The output of 10 manufacturing categories out of a total of 13 declined in May compared to the previous month, informed the statistics office. The biggest contributors to the disappointing output figures were basic metals, which decreased 2.3 percent, and pharmaceuticals, which also slid 3.6 percent during that period. 

The latest ONS production figures took a lot of economists by surprise. Indeed, the median forecast of 25 economists was for a gain of 0.4 per cent, according to a recent Bloomberg news survey. So, May’s slump in UK manufacturing was a bit of a damp squib for the markets. After all, UK domestic consumption remained buoyant during the first quarter of 2014, spurred on by the Bank of England’s expansionary monetary policy, which facilitated cheap and readily available credit. The upshot of a loose monetary policy was a boom for manufacturers, who reported the biggest rise in domestic sales since the survey started in 1989 in the first quarter of 2014. Contributing to this figure were British consumers who splashed out on new cars, at their fastest rate in nine years. A whopping 1.29 million new vehicles were sold in Britain during the first half of the year, which represented a 10.6 per cent increase in sales from the same period last year, according to the Society of Motor Manufacturers and Traders (SMMT). Ford Fiesta, Vauxhall Corsa and Ford Focus were top on the buyers’ list. “Britain's car industry has smashed records going back to 1959 with the longest-ever period of sales growth of new cars,” said Mike Hawes, SMMT chief executive. Car manufacturing in Britain also increased during the first half of the year as foreign owned companies invested in production lines at their UK factory plants. Apparently, this trend is expected to continue with manufacturing output for cars predicted to return to levels not seen since the 1970s where a record 1.92 million vehicles were built in Britain during 1972, according to SMMT. Last year the total was 1.51m cars, which represented a six-year high. 

However, while domestic consumption provided strong tailwind for UK manufacturing, in the first half of 2014, UK exports remain lackluster during the same period. 

The lingering recession in many parts of the Euro zone didn’t help boost UK manufacturing sales. UK exports to the EU fell by £11.5 billion in the month of April 2014, which is a decrease of £2.1 billion (15.8 per cent) compared to last month. It is also a decrease of £0.6 billion (4.9 per cent) compared to April 2013. Certainly, bitter austerity is biting hard in the southern countries of Europe and public health cuts were most probably contributing to falls in UK pharmaceuticals exports to the region. Additionally, Britain’s exports outside the EU declined, the trade deficit rose to £8.92 billion in April, 2014 compared to £8.29 billion in March, representing a decline of 1.5 percent in manufacturing exports, according to a recent Bloomberg article.

Furthermore, the strengthening pound against the euro and dollar could also be a contributing factor providing headwinds for UK manufacturers, which was reflected in May’s dismal manufacturing figures. The appreciating pound is making UK manufacturing exports more expensive and thereby less competitive abroad. Furthermore, the Bank of England’s perceived hasty move to tighten monetary policy could also be strengthening the pound even further, providing more anxiety to UK manufacturing. Underscoring this view Samuel Tombs, an economist at Capital Economics in London said, “The data suggest that the stronger pound might be starting to slow the recovery in the manufacturing sector.” However, on an upbeat note he added that, “Despite today’s disappointing figures, we continue to think that the economic recovery will receive decent support from the industrial sector.”

Michael Saunders, UK economist at Citi also played down May’s disappointing output figures. "We do not regard these data as a sign that the economy's rapid expansion is losing momentum," he said and cited a series of positive industry data to back his support. Manufacturing output has increased 2.3 percent from a year earlier and was up 0.6 percent in the three months through May from the previous quarter. 

However, while the ONS cautions into reading too much into one set of monthly figures, there are some strong headwinds for UK manufacturing in the months that lie ahead. External factors such as a slowing global economy could put a further dampener on UK manufacturing exports. Moreover, the benign climate of low interest may be coming to an end. BOE Governor Mark Carney has said that the time to normalize rates is now “edging closer.” The market is betting that rates, which have been kept at a historic five year low, will rise 25 basis points by February. But higher interest rates would be a double blow for UK manufactures as it would make financing investments in plant and machinery more costly. It would also cause an appreciation in sterling, making UK manufactured exports less competitive abroad. Moreover, the geopolitical situation in Iraq and the Ukraine is resulting in higher energy costs, which is a huge input cost for manufacturing. So rising energy costs could also be a headwind for UK manufacturers. Furthermore, there is the UK future relationship with the EU to consider. As Europe moves closer towards a federal Europe and the UK continues to isolate itself from it, this may deter future inward investment into UK plants and machinery. Large scale foreign investors may be put off making future investments in their UK production plants due to a fear that the UK could decide to exit from the European Union. So there’s a number of compelling reasons to be bearish about future UK production figures and it could also be factor for investors deciding to take risk off the table.

Changes to GDP Calculation!

In April it was reported that the UK economy grew by 0.8% in the first quarter of 2014.  This was a slight increase on the 0.7% in the final quarter of 2013.  This was the fifth consecutive quarter of GDP growth, although the Office for National Statistics that compile the figure said that the economy was still smaller than its peak in 2008. Since then the National Institute for Social Research (NIESR) which is a highly respected independent economic research company has estimated that GDP for the quarter ending in May has increased by 0.9%.  These figures are normally a very accurate estimate of the official figures which will be published in a month’s time.  It should always be recognised that whatever figures are first announced that they will be substantially revised over subsequent quarters as a recognition that the data collected is refined and becomes more accurate.  It is estimated that the UK will experience a strong recovery this year of about 2.9% or more and that this compares with an anticipated average rate of growth of 2.5%.  Reports that GDP has recovered to that achieved before the recession in 2008 are small comfort as the economy should have been growing since then at 2.5% and has some way to go before it is where it should be.  It will need several years of above normal growth to achieve this

Gross domestic product or GDP is a measure of the country’s economic activity based on surveys of businesses and government departments.  It is the monetary value of all the finished goods and services which are produced in the country within a specific period and is used as a barometer of economic health.  It can be useful for comparing the various factors that make up the economy – consumers, businesses and governments.  The figure is usually updated quarterly although it is calculated on an annual basis. A contraction of the GDP figure over 2 consecutive quarters is considered to indicate that an economy is in recession.

The basic calculation for GDP uses the formula: GDP = C + G + I + NX

C is the consumer spending or private consumption

G is government spending

I is business capital spending

NX is the total exports less total imports

It can be determined in one of three ways as either the output (production) figure, the income figure or expenditure figure. The output figure is a sum of the market value of final goods and services produced in a year, while the income figure is the total of incomes of employees, profits of businesses and tax collection by government minus subsidies on production and products during the year. The expenditure approach is the sum of all household expenditure incurred plus consumption expenditure of non-profit making organisations plus government consumption expenditure and capital formation plus exports minus imports during the year.  These figures should produce the same result, however, they rarely do and the difference is dismissed as a statistical aberration but is an indication of how difficult it is to collect reliable data.

In order to compare GDP figures from one year to the next it is necessary to adjust for the effect of inflation (or deflation).  Without any adjustments the figure is regarded as nominal, current or historical GDP.  Once adjustments have been made the figure is regarded as real or constant GDP.

When comparing GDP between countries it is also necessary to adjust the value according to exchange rates.  By calculating the GDP per capita economists often make a comparison of the standards of living between countries.  It is also a problem that the components used by individual countries are not the same for all.

One frequent criticism of the GDP measure has been that it does not take into account any activity or transactions that are not reported to the government such as illegal trade, tax avoidance activities or black market transactions.  It also excludes household production and volunteer services.  Another criticism is that it ignores the value of all the assets of the economy.

Following a call by the European Union to standardise and broaden the calculations for GDP, The Office for National Statistics has announced changes to the way that GDP is measured and in September 2014 the national accounts will include a wider range of constituents including research and development costs, and black market activities.

This change will not be limited to the UK as the European Union is requiring its members to implement new statistical rules so that economies can be more readily compared.

Changes will be applied retrospectively and will result in the 2009 GDP figure being revised up by £65 billion or 4.6% with £22 billion coming from R&D and £23.6 billion from changes to the way that non profit institutions such as charities and religious institutions provide households with various free services.

The major change is that Research and Development expenditure will be treated as investment rather than intermediate consumption.  In future defined benefit pension schemes will increase the level of GDP by a further £5.1 billion and also double the UK's savings ratio. These are controversial inclusions as they may overstate economic output or worse still double count the figures.

People building their own homes will also be included and are thought to contribute a further £4bn or 0.3% of GDP. Bizarrely another £9.7 billion will be attributed from illegal drug dealings and prostitution are now to be included in the figures as estimates are already reported to government!

As a complete measure of an economy’s growth or retraction and with the inclusion of inflation in the final figure the GDP is regarded as a very useful measure against which monetary policy can be formulated.  The problem of using the measure is that it is delayed because of the time taken to collect the data but can still be compared with the monetary conditions at the time so that the right conditions could be created in order to manage inflation.  By standardising the inclusion of data in the figures across countries it should also help to refine the management of economic conditions for the control of growth and inflation.