Interest Rates Cuts: Politics and Europe

Rob Mackrill - Thu 06 Dec, 2007

We were wrong. The cost of money just came down... The Bank of England decided on a quarter point rate cut, bringing it down to 5.5%. We noted earlier in the week, the shadow MPC has a reputation for getting it right and they voted 5-2 in favour of a cut. Maybe we should have listened...but the consensus in the court of market opinion shifts so fast...

We were wrong. The cost of money just came down...

The Bank of England decided on a quarter point rate cut, bringing it down to 5.5%. We noted earlier in the week, the “shadow” MPC has a reputation for getting it right and they voted 5-2 in favour of a cut. Maybe we should have listened...but the consensus in the court of market opinion shifts so fast...

Earlier Bloomberg had reported opinion was evenly split opinion amongst economists - 52% said no change, and 48% predicted a cut. This seemed to suggest it would be a close run thing...

At the start of the week the notion was dead in the water, but we noted a slew of news yesterday providing timely ammunition for the cutters...and all of a sudden, it was back on. House prices are falling, consumer confidence tumbling, retailers hurting, commercial property prices crumbling... The financial markets rejoiced and reacted yesterday like a cut was in the bag. And so it was. In this case, there really was wisdom in the crowd...or was it more it’s overwhelming pressure? Yesterday, the FTSE shot up 178 points and is up another 75 by midday today and heading towards 6,600.

Our own currency expert and trader Tom Tragett from Forex Profit Alert sends this note:

“Just a thought... the Bank of England was unanimously expected to leave rates on hold and only in the past couple of days have they caved in to pressure...Interesting that CPI is still above target (at 2.1%) and all the talk now is that members of the MPC are appointed by the government so this decision was a result of government pressure. There are very good reasons not to be doing anything at all to interest rates apart from giving the consumer a token Xmas present....a little too late I fancy in any case....credibility issues will be all over the press by the week-end I fancy...anyway just a thought...”

Cutting interest rates doesn’t do much for your currency, of course. Over in the currency market, the pound has taken a drubbing. Down from $2.06 to $2.02 against the dollar and these days it buys you a modest €1.38 euro. Forget Paris for your Christmas shopping, but New York might just work out if you’re quick...

Across the Channel, it’s decision time for the European Central Bank too. As expected, rates remain on hold in Euroland at 4%. Growth is forecast to slow to 2% next year and the currency’s strength is causing problems. The problem though is Eurozone inflation hit 3% in November, its highest level in six years. So a cut wasn’t on the table. Indeed, pre-credit crunch rates were slated to rise to 4.5% by year end.

*** Another UK bank showed its hand today in the subprime mess...and the news has further encouraged stock market bulls.

Royal Bank of Scotland CEO, Sir Fred Goodwin, says it has not been “beer and skittles” this year as he ‘fessed up to £5.2bn in subprime exposure. £3.5bn of it is its own and an additional £1.7bn comes from newly acquired Dutch bank, ABN Amro. Of this total it has announced net write-downs totalling £1.25bn in the second half, of which £300m is attributed to ABN Amro.

Bad news but not that bad it seems. RBS is bullish about the year and anticipates a strong set of results. Operating profit and earnings per share are expected to be “well ahead of market consensus”.

There’s the feeling we’ve arrived at a big staging post on the journey to understanding the full damage of US subprime mortgage debt on UK banks. Barclays and RBS were the market’s two frontline worries and now they’ve both disclosed. Following £1.3bn in net writedowns announced by Barclays last month, RBS appears to have come out slightly better than its rival. The market’s relief has seen the shares jump more than 7% this morning.

*** Property groups will be hoping dearly that the cut in rates helps get the credit markets moving again. According to leading commercial agent CB Richard Ellis, 40% of outstanding property debt needs to be refinanced by 2009! How much of a pile of money that is we have no idea but given commercial property has been such a red hot asset class in recent years we reckon it’s a lot. Opportunistic funds with barely a track record to their name have proliferated, hoovered up investor cash, mixed it with cheap debt and bid up prices to record levels. Now the wheels have come off and the story is of falling prices, debt levels and fund lock-ins.

And as for REITs...anyone remember them? These tax-advantaged property funds are designed for income seeking investors and were launched with much fanfare in January. Their share prices since have been consistent.

Consistently falling, that is. 

This article is from The Daily Reckoning. The Daily Reckoning digs deeper than your newspaper ever dares to bring you the real truth about the stock market...the gold price...oil supply...property trends...interest rates...the US dollar…China's bubble…commodity prices…and much more. And you can sign up FREE!