- A recession at the tail end of 2023 is old news for markets
- But a weakening pound could be good news for many UK firms
The number of people in the UK googling the term 'recession' soared in mid-February as the fateful gross domestic product (GDP) data was released. Search interest for the term was, remarkably, more intense last month than it was both after the financial crisis or during the pandemic. As far as the public is concerned, the ‘R word’ still carries huge clout.
Investors are more sanguine. Stock markets largely shrugged off the news, while sterling only declined modestly against the dollar in response. This is partly because the recession is already old news.
The official designation relies on data for the period between July and December last year, and only confirms what we already suspected: the UK economy suffered a mild contraction in the second half of 2023. Markets move far faster than economic statistics do, and are already looking forward to the second quarter of 2024. Investors are particularly preoccupied with when interest rates will be cut.
But will the ‘technical recession’ diagnosis hasten the pace of rate cuts? Francesco Pesole, FX strategist at Dutch bank ING, thinks that the Bank of England’s (BoE) focus remains on inflation, and doesn’t expect rate-setters to turn towards cuts “on the basis of softer growth and without having reassurances on the inflation side first”.
Matthew Ryan, head of market strategy at global financial services firm Ebury, agrees that “policymakers are far more focused on bringing down UK inflation than propping up near-term growth”, and don’t expect the first BoE rate cut to come any sooner than its June meeting. He added that “investors are not convinced that a mild recession will be enough to encourage the Monetary Policy Committee (MPC) to pull the trigger and lower interest rates just yet”.
It may not be enough to tip the scales, but the news will no doubt weigh on MPC members, who are increasingly worried about the risk of ‘overtightening’ by leaving interest rates too high for too long. February’s meeting saw the first vote for a rate cut, with rate-setter Swati Dhingra warning that the time lags associated with higher rates meant “that [interest rates] needed to become less restrictive now”. History tells us that the MPC usually ‘turns’ two meetings after the first vote for a rate cut, which points to a policy easing as soon as May.
Which firms will suffer from a weaker pound?
Sooner and steeper interest rate cuts would (all else being equal) see sterling weaken as demand for the currency drops. Analysts at Capital Economics think that the pound could fall from $1.27 to $1.20 by the end of the year if interest rates end up being cut faster than markets currently expect.
But this would be good news for the FTSE 100 which, as the chart shows, derives more than 75 per cent of its revenues from outside the UK. The FTSE 250 is not far behind, with domestic and international sales exposure split about half and half. The divorce between the indices and the UK economy is so great that Goldman Sachs analysts argue “they are a poor reflection of domestic growth, rates and policies”.
Goldman notes that Antofagasta (ANTO), Anglo American (AAL), British American Tobacco (BATS), AstraZeneca (AZN) and Diageo (DGE) all make more than 95 per cent of their sales abroad, despite their London listings. These companies are not only better insulated from the challenges of a weaker pound, but the impacts of a domestic recession, too.
At the other end of the spectrum, companies that import raw materials and sell in sterling are at a particular disadvantage, and Goldman sees vulnerability here for some mid caps. Some big names such as Greggs (GRG), J Sainsbury (SBRY), Whitbread (WTB) and Dunelm (DNLM) all have more than 95 per cent UK sales exposure. Firms that make the majority of their revenues in the UK could be doubly disadvantaged if the domestic market remains recession-bound.
