UK interest rate cycle

Previous articles have looked at the Bank of England’s bank rate. For a brief recap, the chart below plots the level of the bank rate since 1901.

Bank of England Base Rate [1901-2016]

When growth in an economy is thought to be too low, interest rates may be reduced to increase consumption and investment. However, at a certain stage low interest rates may lead to inflation with over-investment in property and other assets. At this point, to limit inflation, interest rates may be raised.

This cycle of interest rates increasing and decreasing is roughly related to the economic cycle: low grouth leads to lower interest rates, and high growth leads to higher interest rates.

When central banks are lowering interest rates this is often referred to as the easing phase of the interest rate cycle; when rates are being raised this is the tightening phase of the cycle.

For the purposes of the study here, rates are said to be in an easing phase if the previous rate change was down. They stay in this phase until a positive rate change occurs, at which point rates move into a tightening phase.

The following chart reproduces the first chart but overlays vertical bars to highlight the tightening phase of the interest rate cycle (i.e. periods when the bank rate is being increased). The periods without grey bars are therefore easing phases.

UK interest rate cycle [1901-2016]

The following table gives a summary of the length of time the base rate stayed in the respective phases.

Period Market Days Easing Tightening
1901-1969 17,995 70% 30%
1970-1999 7,590 59% 41%
2000-2016 3,994 74% 26%
1901-2016 29,579 68% 32%

Over the whole period rates stayed in an easing phase (68%) for twice as long as they did in a tightening phase (32%).

The following chart is similar to the above, but zooms into the shorter time period: 1970-2016.

UK interest rate cycle [1970-2016]

It can be seen that before 1988 monetary policy changed direction frequently (i.e. the average interest rate cycle was short). After 1988, monetary policy settled down and the interest rate cycle became much longer.

For example, in the five years, 1983-1988, there were seven full rate cycles (i.e. an easing phase followed by a tightening phase), the same number as occurred in the 28 years since 1988.

For reference, the following chart overlays the FTSE All-Share Index on the BoE base rate.

BoE base rate v FTSE All-Share Index [1970-2016]

It can be seen that the period of great credit expansion that occurred 1980-2000 was accompanied by an overall decline in interest rates from 17% to 5%.

The following chart (crudely) shows what happened to equities over this period during the discrete periods of interest rates being easing and tightened.

  • The green line plots the value of a portfolio that invested in the equity market only during the easing phase of interest rates.
  • The blue line plots the value of a portfolio that invested in the equity market only during the tightening phase of interest rates.

The red line plots a simple buy-and-hold market portfolio. All portfolio values start at 100.

Interest rate cycle and equities

By 2016 the Easing Portfolio had a value of 986, while the Tightening Portfolio a value of 228. Obviously some of this difference in performance is attributable to the fact that the Easing Portfolio was invested in the market for twice as long as the Tightening Portfolio.

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FTSE 100 for US dollar investors in 2016

The following chart plots the FTSE 100 Index for the period 1 January 2016 to 11 July 2016. It also plots the Index priced in US dollars (i.e. it shows the returns a US dollar investor would see over this period).

FTSE 100 v FTSE (USD) [Jan-Jul 2016]

Today, the FTSE 100 Index closed at 6682, an increase of +9.7% from 1 January 2016.

Adjusted for the GBPUSD rate, the FTSE 100 closed today at 5886 (in dollar terms),  a decrease of -5.7% on the start of the year.

 

 

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UK bank rate changes since 1694

A previous article looked at the history of the official bank rate since 1694.

Here we will analyse all the discrete changes made to the bank rate since 1694.

Since 1694 the Bank of England has made 828 changes to the bank rate. Changes to the bank rate today are recommended by the Monetary Policy Committee (MPC), which meets once a month to consider changes to the bank rate (more info on the MPC).

The following chart plots all the changes to the bank rate from 1694. The size of each respective change is shown on the Y-axis. (NB. the Y-axis is truncated at plus and minus 3 for legibility; in 1914 the rate did see changes of +4 and -4.)

BoE bank rate changes [1694-2016]

As can be seen, until the beginning of the 20th century the great majority of rate changes were +/- 0.5 and +/- 1. And also the the balance of the size of positive and negative rate changes was roughly equal.

Towards the end of the 20th century the Bank started experimenting with larger and smaller increments of change. And the balance of rate changes also changed: periods of small negative changes would be interrupted by larger positive rate adjustments. .

In 1982 the Bank began a cautious period of frequent rate reductions of just 0.125 (the smallest rate reduction up to this time). The last time the bank rate was reduced by such a small amount was in 1989.

The frequency distribution of size of rate changes is shown in the following chart.

Distribution of BoE bank rate changes [1694-2016]

As can be seen, the most common rate change has been a reduction of half a percentage point. (Since 1694 33% of all rate changes have been for -0.5.) After that the most frequent rate change was plus one percentage point.

The above chart supports the (well-known) observation that rates are reduced cautiously with small increments and increased with more aggressive, larger increments.

The following breaks this frequency distribution down by century.

Distribution of BoE bank rate changes (by century) [1694-2016]

The above chart supports the previous observation that, whereas in the 19th century the Bank restricted its changes to a narrow band of increments, in the 20th century the size of the rate changes were more dispersed.

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UK bank rate since 1694

There are many different interest rates in the UK but one of the most important is the official bank rate (sometimes also referred to as the Bank of England base rate). This is the rate at which the Bank of England lends to banks. It has a direct influence on interest rates in the domestic banking system and as such the bank rate is a reference level for the rates which the London clearing banks pay on deposits and charge on loans.

Changes to the bank rate are recommended by the Monetary Policy Committee (MPC), which meets once a month to consider changes to the bank rate (more info on the MPC).

Further information on the official bank rate can be found here at the BoE web site.

Over the years this interest rate has been referred to variously as the Bank Rate, Minimum Lending Rate, Minimum Band 1 Dealing Rate, Repo Rate and, today, the Official Bank Rate. But we can regard them all as essentially the same thing. And we can concatenate these rates over the years to create a continuous record of base rates from 1694.

For reference the rates for different periods are shown in the following table.

Period Rate used
1694 – 1972 Bank Rate
1972 – 1981 Minimum Lending Rate
1981 – 1986 Minimum Band 1 Dealing Rate
1997 – 2005 Repo Rate
2006 - Official Bank Rate

The following chart plots this continuous times series of base rate levels from 1694. [NB. The X-axis is not a uniform scale.]

BoE bank rate [1694-2016]

The following table gives some statistics by century on this bank rate data from 1694.

1700s 1800s 1900s 2000s All
Count 2 408 383 31 828
Mean 4.5 4.3 8.0 4.3 6.0
Standard Deviation 0.7 1.6 3.6 1.4 3.3
Median 4.5 4.0 7.5 4.8 5.0
Maximum 5.0 10.0 17.0 6.0 17.0
Minimum 4.0 2.0 2.0 0.5 0.5

The Count row gives the number of times the bank rate was changed in each respective century.

Until 1973 the average bank rate had been around 4%, but then shot up to levels not seen before – reaching a maximum of 17% in 1980.

Volatility (measured by standard deviation) of the bank rate also increased at the same time to levels not seen before.

The bank rate we have today, 0.5%, can be clearly seen to be unprecedented. Previously, the lowest rates seen had been 2% in the 18th and 19th centuries.

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Currency rate changes 2016 1H

GBP

The following chart shows currency rate changes against GBP for the first half 2016. For example, GBP fell 22.5% against the Yen.

Currency rate changes against GBP 2016 1H

USD

The following chart shows currency rate changes against USD for the first half 2016. For example, USD increased 10.5% against GBP.

Currency rate changes against USD 2016 1H

 

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International markets 2016 1H

The following charts plot the performance of a selection of world markets in the first half 2016.

Domestic currency

International markets 2016 1H returns

GBP

The following chart plots the GBP-adjusted returns (i.e. these are the returns for a GB pound investor).

International markets 2016 1H [GBP] returns

USD

The following chart plots the USD-adjusted returns (i.e. these are returns for a US dollar investor).

International markets 2016 1H [USD] returns

 

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International markets 2016 2Q

The following charts plot the performance of a selection of world markets in the second quarter 2016. 

Domestic currency

International markets 2016 2Q returns

GBP

The following chart plots the GBP-adjusted returns (i.e. these are the returns for a GB pound investor).

International markets 2016 2Q [GBP] returns

USD

The following chart plots the USD-adjusted returns (i.e. these are returns for a US dollar investor).

International markets 2016 2Q [USD] returns

 

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The Stock Market in July

The old stock market adage, “Sell in May and go away” continues, “don’t come back till St Leger’s Day”. However, analysis of the historic data shows that the worst returns over this period occur in May and June. After June, returns up to St Leger’s (in September) tend to be quite flat.

In fact, after traditional weakness in June, prices quite often bounce back in July – making this month a small island of strength in an otherwise weak 6-month period. Since 1970 the FTSE All-Share Index has seen an average return of 0.8% in July, with 52% of years seeing positive returns in this month. This makes July the fourth strongest month of the year for shares.

Monthly returns of FTSE All Share Index - July (1984-2015)

As can be seen on the accompanying chart, in recent years shares have been particularly strong in this month. In the past 7 years the market’s returns in July have been over 6% in three years. Currently, July is on quite a run!

The average July

On average the start of the month tends to be strong ­ the first week of the month is among the top ten strongest weeks in the year. After that, the market has a propensity to drift lower for a couple of weeks until finishing strongly in the final week of the month.

FTSE 100 v FTSE 250

July is one of only three months (the others being September and October) where the FTSE 100 tends to out-perform the mid-cap FTSE 250, although the out-performance in July is not significantly large (an average of 0.3 percentage points since 1986). Better is the performance of the FTSE 100 relative to the S&P 500, in sterling terms July is the second best month for the FTSE 100 (an average of 1.0 percentage points since 1984).

Sectors

Historically the sectors that have been strong in July are Chemicals, Personal Goods and Real Estate Investment Trusts while weak sectors have been Gas, Water & Multiutilities, Support Services and Beverages.

Diary

July is a busy month for companies announcing their interim results: 23 FTSE 100 companies will be doing so, and 44 FTSE 250 companies.

On the economics front: there is the US Nonfarm payroll report on the 1st, the MPC interest rate announcement on the 14th, and the two-day FOMC meeting starts on the 26th. The New York Stock Exchange will be closed on 3rd July. And on the outside chance that England don’t win Euro 2016, fans can instead celebrate the 50th anniversary of winning the World Cup on 30th July.


Article first appeared in Money Observer

Further articles on the market in July.

 

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UK sector indices 2016 2Q & 1H

2016 2Q

The following chart plots the performance of UK FTSE 350 sector indices for the second quarter 2016.

UK sector indices 2016 2Q returns

The data for the chart is given in the following table.

Sector Rtn(%)
Industrial Metals 52.4
Oil & Gas Producers 22.6
Mining 17.7
Pharmaceuticals & Biotechnology 14.1
Tobacco 14.0
Health Care Equipment & Services 11.5
Technology Hardware & Equipment 9.8
Industrial Engineering 9.7
Gas, Water & Multiutilities 9.3
Personal Goods 8.9
Electronic & Electrical Equipment 7.4
Beverages 6.4
Industrial Transportation 5.6
Electricity 5.2
Forestry & Paper 4.4
Construction & Materials 4.1
Equity Investment Instruments 2.6
Nonlife Insurance 2.1
Aerospace & Defense 1.5
Mobile Telecommunications 1.4
Software & Computer Services 0.9
Oil Equipment, Services & Distribution 0.7
Support Services 0.1
General Industrials -0.4
Chemicals -1.1
Banks -2.4
Media -4.7
Household Goods & Home Construction -5.1
Automobiles & Parts -6.6
Fixed Line Telecommunications -6.8
Real Estate Investment Trusts -7.4
Food & Drug Retailers -8.9
Travel & Leisure -9.1
Financial Services -9.1
Life Insurance -9.4
Food Producers -12.3
Real Estate Investment & Services -12.6
General Retailers -13.1

2016 1H

The following chart plots the performance of UK FTSE 350 sector indices for the first half 2016.

UK sector indices 2016 1H returns

 

The data for the chart is given in the following table.

Sector Rtn(%)
Industrial Metals 87.3
Mining 44.2
Oil & Gas Producers 32.5
Tobacco 23.4
Industrial Engineering 21.0
Personal Goods 17.4
Gas, Water & Multiutilities 13.0
Industrial Transportation 12.8
Electronic & Electrical Equipment 9.8
Beverages 9.2
Health Care Equipment & Services 9.1
Technology Hardware & Equipment 7.9
Oil Equipment, Services & Distribution 7.7
Food & Drug Retailers 7.2
Pharmaceuticals & Biotechnology 6.1
Aerospace & Defense 5.4
General Industrials 5.1
Forestry & Paper 4.6
Nonlife Insurance 4.1
Electricity 3.6
Software & Computer Services 3.6
Construction & Materials 2.9
Chemicals 0.8
Mobile Telecommunications 0.4
Equity Investment Instruments -0.3
Support Services -2.3
Media -3.4
Household Goods & Home Construction -3.6
Food Producers -12.1
Fixed Line Telecommunications -12.3
Automobiles & Parts -12.6
Financial Services -13.6
Travel & Leisure -13.8
Real Estate Investment Trusts -13.9
Life Insurance -18.8
General Retailers -19.9
Banks -20.4
Real Estate Investment & Services -23.4

 

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UK equity indices returns 2016 2Q & 1H

2016 2Q

The following chart plots the performance of UK equity indices in the second quarter 2016.

UK equity index returns 2016 2Q

 

The data for the chart is given in the following table.

Index Rtn(%)
FTSE 100 Index – Total Return 6.5
FTSE 100 5.3
FTSE4Good UK 50 5.0
FTSE All-Share – Total Return 4.7
FTSE 350 3.7
FTSE All-Share 3.5
FTSE4Good UK 3.5
FTSE TechMARK All Share 2.9
FTSE AIM 100 1.2
FTSE TechMARK Focus Index 1.0
FTSE AIM All-Share -0.4
FTSE UK Dividend Plus -1.5
FTSE SmallCap -1.6
FTSE Fledgling -2.2
FTSE 250 -3.9

 2016 1H

The following chart plots the performance of UK equity indices in the first half 2016.

UK equity indices 2016 1H

The data for the chart is given in the following table.

Index Rtn(%)
FTSE 100 Index – Total Return 6.62
FTSE All-Share – Total Return 4.27
FTSE 100 4.2
FTSE 350 2.27
FTSE All-Share 2.07
FTSE4Good UK 50 1.99
FTSE4Good UK 0.84
FTSE TechMARK All Share -1.17
FTSE UK Dividend Plus -2.32
FTSE TechMARK Focus Index -2.85
FTSE Fledgling -3.41
FTSE SmallCap -3.52
FTSE AIM 100 -4.09
FTSE AIM All-Share -4.19
FTSE 250 -6.65

 

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