Neither a borrower nor a lender be?

• China, US and UK large-cap equities advanced +1.41%, +1.36% and 1% respectively
• Sterling strengthened by +0.57% versus the euro and +0.29% against the yen

• Sterling high-yield bond prices fell -1.92%
• Korea equities slid -5.16%

(All equity data is MSCI; all bond data uses ICE Bank of America indices unless otherwise stated; all data in sterling unless otherwise stated)

The UK’s borrowing costs rose to their highest levels in 28 years last week, following a global sell-off in government bonds. UK 10-year gilt yields traded around 5.45%, while 30-year gilt yields topped 6.00%. Whilst equivalent debt issued by the US and France failed to hit new highs, broader moves reflect persistent concerns around government debt levels, inflation and the likelihood that interest rates will stay higher-for-longer. 

Scrutiny on fiscal policies is intensifying, with the International Monetary Fund’s Managing Director Kristalina Georgieva warning governments to show greater fiscal discipline and not rely on stronger economic growth alone to reduce their debt burdens. Political uncertainty in Europe also remains in focus, with Spain’s Prime Minister Sanchez calling a snap election after recent housing-related protests, while France is facing its own debt crisis.

Although US 10-year treasury yields climbed above 5.35%, recent auctions have attracted solid demand from investors seeking higher income. In the UK too, such ‘risk-free debt’ is arguably attractive. But higher government bond yields may yet start to impact corporate debt markets, prompting some companies to review their borrowing plans and pressuring others with lower credit ratings.

The latest minutes from central bank meetings reinforced the ‘higher rates for longer’ narrative. All nineteen policymakers at the US Federal Reserve supported an increase in September. They flagged one, if not two, 0.25% hikes before year-end if more progress is not made taming inflation. Similarly, the European Central Bank’s (ECB) September account showed unanimous support for a 0.25% rate increase, with energy-related costs likely keeping inflation above its 2% target. Despite these concerns, the ECB judged that the eurozone economy remained resilient enough to absorb tighter monetary policy. 

As US equity indices grind higher, investors are increasingly scrutinising Artificial Intelligence (AI) spending, to gauge whether revenues justify the amount of capital needed for new infrastructure. A Financial Times article suggested that investors in ChatGPT owner, OpenAI, have been warned that annualised revenues to the end of September were around $20bn lower than estimates. 

OpenAI’s shortfall partly stemmed from the different reporting methodologies it, and key competitors such as Anthropic, use. As private companies, they are not required to publicly disclose their financials or adhere to the same accounting standards. That said, revenue generation – for OpenAI and its competitors – is a key indicator of the underlying level of AI demand, underpinning equity market strength and helping to justify the vast AI outlay.

Whilst OpenAI has delayed its plans to list publicly this autumn, Anthropic is expected to list in November. Both IPOs should provide an insight into the market’s appetite for AI. What’s not in question is the pace at which leading AI-related companies are seeking to advance their operations. And AI financing models are evolving as a result. 

Once, funding AI investments came primarily from cash generation; nowadays, companies are increasingly turning to debt markets, private equity and private credit. Reports last week suggested that SpaceX is exploring buying Nvidia chips with funding from private equity giant Apollo Global Management. Other large-scale funding initiatives have also been mooted, with US semiconductor manufacturer Broadcom reportedly involved in securing private equity investment to support OpenAI's custom semiconductor programme. Such a foray is not a first for Broadcom. The growing involvement of specialist financing as an enabler of AI development highlights a structural shift. 

Avoiding a full-blown trade-war was perhaps the most officials from the EU and China could hope for when they met in Beijing last week. The mood soured as Germany and France issued a joint-statement to the European Commission vaguely outlining how to deal with industrial threats – including a “Buy European” manifesto and a pledge to de-risk and diversify the EU’s supply chains.

The EU believes a combination of unfair subsidies, an undervalued Chinese renminbi and export-controls – on everything from tech know-how to rare earths – are behind China’s daily €1bn trade deficit with the bloc. Many technocrats believe these policies are destroying jobs in sectors including autos, thwarting the EU’s ability to defend itself, fomenting social unrest and advancing extreme politics.

Meanwhile, China might likely contend that bureaucracy and self-interest among the EU’s 27 member-states are holding it back; that the EU’s appetite for EVs made in China proves that China wins fair-and-square on quality-price. 

The EU’s economy has proven more resilient this year than many had expected. But its negotiators won’t want to return to Brussels empty-handed. EU leaders meet again on 15-16 October and Chinese exports will be top of the agenda. It’s possible that the UK and Germany’s intention to collaborate more closely over defence, and Andy Burnham’s reignition of the Brexit debate, might come close seconds. Countries and trading blocs are re-orienting themselves in the face of an increasingly multi-polar world.

• UK Prime Minister Andy Burnham may reportedly delay a defence spending decision until Autumn 2027 – The deferral may raise questions about the UK meeting its NATO commitment to spend 3.5% of GDP on defence by 2035. The existing Defence Investment Plan, targeting 2.7% of GDP by 2030, is currently underfunded by an estimated £4.7bn
• Samsung Electronics Co. estimated its third quarter operating profit would top $80bn – A global memory chip shortage, driven by increasing AI demand, contributed to a 900% rise in quarterly profits
• The Reserve Bank of India (RBI) raised interest rates to 5.50% – Rising inflation and a weaker currency prompted the RBI follow other central banks, hiking for the first time in over three years
• The University of Michigan’s Consumer Sentiment index fell to 46.3 in October, well below forecasts of 47.6 – Preliminarily, their second-lowest recorded level as consumers tackled higher goods prices and borrowing costs. Affordability is likely a key concern for voters ahead of November’s mid-term elections. But sentiment surveys are heavily skewed by political bias
• Conservative Party leader Kemi Badenoch pledged to abolish inheritance tax on family homes and allow couples to pass on an additional £1m – Though she acknowledged that existing spending commitments would make it difficult to implement

Disclaimer

Past performance is not a reliable indicator of future returns. Nothing herein should be construed as a recommendation to hold, buy or sell any security or encourage any investment decision. The mention of any particular asset class, sub-asset class or company does not imply that it is held, or may ever be held, in any product or service.