The Cost of Money

September begins against a challenging global backdrop. Geopolitical tensions continue to influence energy markets and international trade, while governments around the world are facing increasingly difficult decisions about taxation, spending, and borrowing.  At the same time, the artificial intelligence revolution continues to attract vast sums of investment capital, reshaping expectations for some of the world’s largest companies.

Closer to home, the UK faces many of the same challenges. Inflation remains above the Bank of England’s target, economic growth has been subdued, and the public finances remain under close scrutiny. None of this automatically points towards a market downturn, but it does mean that one factor is becoming increasingly important for investors, governments, and households alike: the cost of money.

When Inflation Makes Borrowing More Expensive

Although inflation has fallen significantly from the highs experienced in recent years, it remains above the Bank of England’s 2% target. Energy prices continue to play an important role, with oil and gas markets remaining sensitive to ongoing geopolitical developments.  This matters because inflation has a direct influence on borrowing costs.

Across many developed economies, government debt levels remain historically high. Investors are increasingly demanding higher returns to compensate for inflation and fiscal uncertainty.  In the United States, national debt has now exceeded $40 trillion, while in the UK, longer-dated gilt yields have risen to levels not seen for many years.  The impact extends well beyond government finances.

The yield available on Government Bonds influences borrowing costs across the wider economy, including fixed-rate mortgages. With 30-year Gilt yields having recently hit 5.8%, markets are becoming increasingly concerned that mortgage rates could remain elevated or move higher in the months ahead, particularly for borrowers approaching the end of existing fixed-rate deals. Households are also continuing to face pressure from higher living costs, frozen tax allowances, and increased borrowing costs.

What Markets Are Telling Us

Despite ongoing concerns surrounding inflation, government borrowing, and geopolitics, markets have continued to focus on long-term growth prospects and corporate profitability. Year-to-date, the FTSE 100 (the UK’s 100 largest listed companies) has returned 11%, while the MSCI World Index (representing medium and large-sized companies across developed global markets) is up 12%, highlighting how markets can look beyond short-term uncertainty and focus on future growth expectations.

Why Markets Are Not Panicking

Given the backdrop, it would be reasonable to expect financial markets to be struggling, yet equity markets have remained surprisingly resilient.  This is largely because markets are forward-looking and place greater emphasis on future earnings expectations than short-term news headlines. While governments face borrowing challenges and households remain under pressure, many businesses continue to generate strong profits and adapt to changing economic conditions. History shows that markets can perform well during periods of uncertainty when corporate earnings remain healthy, as investors focus on fundamentals rather than short-term headlines.

Artificial Intelligence: Expectations Keep Rising

Naturally, some investors are beginning to question whether current AI valuations resemble previous technology bubbles. While valuations in parts of the technology sector remain demanding, the scale of earnings growth currently being delivered means comparisons with previous speculative bubbles appear less convincing than many commentators suggest. Nvidia’s latest results once again exceeded expectations, reinforcing the view that investment in AI infrastructure continues to be supported by strong underlying demand. Longer term, the success of these investments will depend on their ability to generate sustainable returns, but current demand trends remain supportive and there is little evidence that enthusiasm for AI is fading.

How We Are Positioned

We do not believe the current environment calls for a wholesale defensive shift in long-term portfolios. Instead, we continue to favour diversified portfolios capable of participating in economic growth while retaining sufficient resilience to navigate periods of uncertainty. One important difference compared with recent years, is that Bonds are once again offering meaningful levels of income. Higher yields have improved prospective returns across parts of the fixed-income market, providing investors with an additional source of return alongside equities.  At the same time, opportunities continue to emerge across global equity markets, particularly for active managers able to identify businesses with strong earnings, robust balance sheets, and attractive valuations. Diversification therefore remains as important as ever.

Staying Focused on What Matters

When uncertainty rises, it is frequently investor behaviour, rather than investment fundamentals, that poses the bigger risk. When headlines focus on inflation, government debt, mortgage costs, and geopolitical tensions, the temptation to make short-term investment decisions can be understandable.  History suggests, however, that successful investing is rarely achieved by reacting to every news headline.  Instead, we believe investors should remain focused on three core principles:

• Remain invested: Times of uncertainty can feel uncomfortable, yet some of the strongest market gains have historically followed periods of heightened concern.

• Maintain diversification: Different regions, sectors and asset classes take turns leading performance, which reinforces the value of spreading risk.

• Expect volatility: Market fluctuations are a normal part of investing and can often create opportunities for those willing to look beyond the short term.

Final Thoughts

Higher interest rates continue to influence governments, businesses, and households, but they also create new opportunities for investors. This reinforces the value of a disciplined, diversified portfolio that can adapt to changing market conditions.  While the headlines will continue to change, the principles of successful investing remain the same. Diversification, patience, and a long-term perspective continue to provide the strongest foundation for achieving long-term financial goals.