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Markets and economists anticipate the 15th increase in this cycle by the central bank to be the last

Financial markets and economists are expecting the Bank of England to raise interest rates by another quarter point at its meeting on Thursday, taking the cost of borrowing to 5.5 per cent, its highest level since early 2008.

The rise would follow a similar move from the European Central Bank last week, despite comments from BoE rate setters over the past month that were designed to give them the option to hold rates at 5.25 per cent.

The near certainty among economists and financial markets reflects the BoE’s guidance that they would raise rates again if there were further signs of persistent inflation, which have been seen in the latest wage and cost of services data.

This evidence jars with the signals coming out of Threadneedle Street in recent weeks. Many members of the bank’s Monetary Policy Committee have sought to create some doubt over the September decision now that borrowing costs are sufficiently high to bear down on economic growth and inflation.

BoE chief economist Huw Pill said inflation would fall if the BoE raised rates further and then had to cut them, as financial markets expect, or if the BoE paused and kept them at current levels for an extended period. He said he “tend[ed] to favour” the latter.

Giving evidence to MPs this month, governor Andrew Bailey and his deputy Sir Jon Cunliffe agreed that interest rates were “much nearer the top of the cycle”.

A fourth MPC member, Swati Dhingra, indicated she thought interest rates had already risen too far and there was a serious risk of over tightening.

Even though four of the nine MPC members expressed views that they were not certain rates needed to rise further, economists said that the data since the rate setters’ meeting in early August had been too inflationary for the BoE to pause immediately.

Private sector wage growth of 8.1 per cent in the year to July and services inflation of 7.4 per cent were both well above the BoE’s forecasts in August.

But the 15th rate rise in this cycle could well be the last. Paul Hollingsworth, chief Europe economist at BNP Paribas, said he expected “a dovish hike” to 5.5 per cent alongside guidance that the majority of the committee now thought rates probably did not need to rise further.

Capital Economics said a quarter-point rise “will be the last in this cycle” while Deutsche Bank said that after the BoE raised rates to 5.5 per cent on Thursday, “the door for a pause is open”.

Financial markets have moved to take the same position. At the end of last week, they were still pricing in a quarter-point rise in rates on Thursday and viewed this as the peak for now. In contrast, after the MPC’s August meeting, markets were still expecting rates to reach 5.75 per cent this year.

Krishna Guha, vice chair of Evercore ISI, said that although there had been a co-ordinated effort to persuade everyone there was no need for many more rate rises, the data did not yet justify a pause.

The big unknown for economists both inside and outside the BoE is the August inflation data, which will be published early on Wednesday, a day before the rate decision is announced.

The rate of price growth stood at 6.8 per cent in July and is expected to tick higher to about 7.1 per cent as a result of a rise in petrol and diesel prices last month, as well as increases in the duty on alcohol.

The slight rise in inflation is unlikely to concern the policymakers because it was in the bank’s August forecasts, but the MPC will be watching the trend in the services sector data particularly closely.

The bank views price growth of domestic services, especially areas such as restaurants and hotels, as a strong guide to underlying inflationary pressure. Inflation in this area has been rising steadily and it would take a sharp improvement in the August data for the MPC to vote for a pause.

Other big developments in economic data over the past month are likely to be glossed over by the MPC, economists said. They said that the revisions that showed the UK economy performed almost 2 per cent better than previously thought in 2020 and 2021 combined were unlikely to change the MPC’s view of inflationary pressure.

Andrew Goodwin, chief UK economist at Oxford Economics, said the upgrades were more likely to change policymakers’ views of how fast the economy could grow without generating more inflation rather than make them think that there were greater pricing pressures this year. “It’s not clear that the revisions will affect the MPC’s stance on interest rates,” he said.

Along with the decision on rates, the MPC must also decide how many gilts the BoE will sell in the coming year in its quantitative tightening process.

This is a one-off, annual event at the September meeting designed to give government bond markets certainty about the supply of gilts. Over the past 12 months, the bank shed £80bn from its balance sheet, made up of £34bn in sales and £46bn of maturing gilts.

Sir Dave Ramsden, BoE deputy governor for markets, has said he expected the scale of quantitative tightening over the next 12 months to exceed £80bn. He has previously said that the £34bn in gilt sales in 2022-23 had no material effect on borrowing costs because the amount was small compared with the government’s £252bn gross financing requirement this year.

French luxury group hopes beauty push and refresh of biggest brand will help it catch up with rivals LVMH and Hermès

As shoppers browsed for handbags earlier this month at a Gucci boutique in Paris, the clothing section was quiet and the racks a little sparse. 

“There’s less clothing in stock than there would normally be because we’re waiting for the new aesthetic to be unveiled,” one sales assistant said.

The Italian luxury house, which accounts for about half of French parent company Kering’s revenues and two-thirds of its operating profit, is among the industry’s biggest with more than €10bn in annual sales.

But sales have been flagging in recent years and Gucci has been in limbo since the November departure of creative director Alessandro Michele, whose successor Sabato De Sarno unveils his first collection in Milan this week.

“Some clients haven’t noticed much of a difference,” the sales assistant said. “But others, who were really in love with the Michele look, are waiting to see what the new vision is like . . . We’re excited but as much in the dark as the public.”

Kering, whose other brands include Yves Saint Laurent and Balenciaga, is betting that Gucci’s new direction will help revive the group’s fortunes after it has struggled to keep up with rivals that have set sales and growth records during a global luxury boom.

Founded by François Pinault, father of current chief executive François-Henri, the group started as a timber trading company in Rennes before diversifying into retail distribution in the 1990s. After buying a stake in Gucci in 1999, the group gradually transformed to focus on luxury, offloading assets such as sports apparel maker Puma and retailer La Redoute and rebranding the group from PPR to Kering.

De Sarno’s appointment in January from Italian fashion house Valentino has been followed by other big changes at Kering under François-Henri Pinault, whose family controls the group.

After a February announcement that it would create a new beauty division, Kering bought high-end perfumer Creed in June for more than €3.5bn. In recent months, the company announced Gucci chief executive Marco Bizzarri would depart after De Sarno’s first show as part of a wider management reshuffle, and struck a deal to buy a 30 per cent stake in Valentino.

The announcement last week that Alexander McQueen creative director Sarah Burton would leave after 13 years at the helm is another big change within the group.

Elsewhere, the billionaire Pinault family has agreed to buy a majority stake in Hollywood talent manager Creative Artists Agency via its holding company, Artémis.

“I made a series of major decisions that will have a profound impact . . . While we have some reasons to be satisfied, there are also reasons to be disappointed with our performances, starting with Gucci,” Pinault told analysts at the end of July, adding that he believed his flagship brand had the potential to grow to more than €15bn in sales “in the foreseeable future”. 

Sales at the French group only ticked up 2 per cent in the first half of 2023, while LVMH gained 17 per cent over the same period. Kering trades at a discount to peers at about 17 times forward earnings, while LVMH trades at 23 times and Hermès at 49 times. 

“A pretty blunt assessment is that while a lot of these mega brands address all ages, all genders, all price points, Gucci has gone a bit narrow,” said Erwan Rambourg, global head of consumer and retail research at HSBC, who believes it was a strategic error for Kering’s flagship brand to focus on young, trendy consumers at the expense of older, wealthier customers.

While many brands including Gucci put a lot of focus into cultivating aspirational luxury clients — particularly among China’s fast-growing middle class — in recent years, the brand was slow to move back to catering to ultra-wealthy, particularly in the core US market as luxury spending went up. As trends changed, Gucci’s less developed lines of iconic products left it vulnerable, and the fall in sales was further exacerbated as Chinese buyers grew more cautious after Covid-19 lockdowns.

While analysts largely see the merits of Kering’s moves, many warn that the results will depend on execution as it looks to tackle not only Gucci’s flagging sales but also problems around its cohesiveness as a group run from Paris but overseeing many of Italy’s biggest luxury brands.

“Most of Kering’s companies are in Italy, so there is an issue of distance and culture, and some resentment over solutions imposed from the headquarters in France,” said another industry analyst, adding that the management changes appeared to be “an attempt to take back control by the executive”. 

Kering declined to comment for this article.

Under Michele and Bizzarri, Gucci doubled down on its fashion-forward credentials, which worked well for several years. Michele’s glamorous, gender-fluid stylings were a hit, as were Gucci’s cinematic ad campaigns and arresting runway shows. A 2018 collection featured models carrying silicon replicas of their own severed heads, while his last show in 2022 was modelled entirely by pairs of identical twins. 

Sales more than doubled from €3.9bn in 2015 when Michele took over to more than €10bn in 2022, as operating profits more than tripled. But Gucci’s approach also tied it to ephemeral trends and the pace of sales growth began to slow, particularly in the past three years.

Michele also resisted the idea of building a more timeless aesthetic for the brand, according to a person with knowledge of the matter. 

Michael Ward, managing director of London luxury department store Harrods, said there had been “a shift in aesthetic with customers globally looking for clean investment pieces” rather than the “bright colours, branding and logo motifs” that Gucci is known for, although he noted the trend had benefited other Kering brands such as Yves Saint Laurent and Bottega Veneta. 

“The gap in bringing in a new designer has led to the brand standing still whilst others have accelerated . . . We hope that [De Sarno] manages to take the brand back to the classic lines which were so successful during the Tom Ford era,” Ward added, referring to the American designer who is credited with reviving Gucci’s fortunes as creative director from 1994 to 2004.

The appointment of longtime Kering executive and Pinault confidant Jean-François Palus as Gucci’s interim chief executive surprised many in the industry who had expected a permanent appointment. Yves Saint Laurent chief executive Francesca Bellettini was also appointed deputy chief executive of the group. 

Bellettini’s promotion was presented by Kering as a way to increase oversight over the group’s brands — an issue that was brought into starker relief after a scandal over a controversial ad campaign at Balenciaga hit sales in Europe and North America — and Palus’s custodianship of Gucci as a way to fast-track the turnaround.

Palus “has been running the group at my side for many years”, Pinault said in July. “So I know that he’s going to be immediately operational, and that was my key concern.”

The beauty division will take time to build but give the group exposure to a fast-growing premium market, allowing its brands to create lucrative new lines of skincare, cosmetics and fragrances.

The Creed deal lends “credibility that their ambitions in beauty are serious”, Citi luxury analyst Thomas Chauvet said at the time. 

But the real prize is not yet in the company’s hands. Franco-American company Coty holds the licence for Gucci-branded beauty products until at least 2028. Kering has said it is dissatisfied with the way the beauty license has been managed by Coty, but the beauty group’s chief executive Sue Nabi said there will be no discussion of a Gucci licence deal in the next five years.

The Valentino stake acquisition was announced in July, with an option to take full control from Qatari fund Mayhoola by 2028. Kering has a record of building up smaller brands such as Alexander McQueen and Bottega Veneta, a playbook that could be applied here — although the amount of control it can assert will be limited in the first phase.

Some investors are optimistic about Kering’s future given the recent changes and the overall strength of the luxury market.

“Kering is a company that has brands which are of size, it’s well managed, it has a solid balance sheet,” said Maria Lernerman, analyst at fund manager Harding Loevner, a top 10 active investor in the group. 

But others see its gradual problem-solving as too conservative.

“Some investors would have preferred a big bang approach,” said Rambourg, especially since “brands like Louis Vuitton, Dior and Cartier have thrived on being bold”.

Activity still forms only a small fraction of traditional lending but it is building

No vintner ever funnelled old wine into new bottles with the zeal shown by financiers. Consider private credit. This is the hottest new thing in finance since the last one. The buzzy term describes corporate loans that do not trade publicly.

But private credit, more broadly defined, is exactly what countless business owners have depended on for centuries. The niche jargon actually describes lending that is not controlled by banks. Instead, investors are marshalled by alternative asset managers such as Apollo, Blackstone and Brookfield.

If you cannot beat them, join them. Last week, Société Générale launched a private credit fund with a target value of €10bn in partnership with Brookfield. Barclays is reportedly planning to establish a similar vehicle with AGL Credit Management.

This is confusing for anyone who would prefer shadow banks and well-lit lenders to stay in their patch of shade or sun. It also raises questions about who will have the balance of advantage in such arrangements.

Alternatives managers are on top in the wider struggle. Private credit is one means by which they are extending their territory beyond their old stronghold of private equity. Previously, they depended on banks to provide their buyouts with debt financing by syndicating publicly traded loans and bonds. By setting up private credit funds, alternatives managers have been able to bring some of that business in-house.

Big investors put money into the funds with the aim of making better returns than they would on syndicated loans or bonds. Mike Carruthers of Blackstone says: “Usually borrowers pay banks a couple of percentage points for a placing made at a discount to face value of one or two points. In a private credit deal, those fees would all go to the funds’ investors.”

The advantage for borrowers is a faster, simpler process that gives little information away to competitors. That contrasts with such rigmaroles of public debt as credit ratings, roadshows and quarterly public reporting. A lower cost of capital is meant to be the advantage of the latter approach.

Borrowers evidently do not believe that. You might quibble that a business in the process of becoming a portfolio company of a buyout group can hardly turn down the client money of the latter. However, Blackstone private credit funds put up hefty financing for two recent European buyouts led by rivals. The first was EQT’s £4.5bn purchase of Dechra, a UK-based veterinary pharmaceuticals group. The second was Permira’s takeover of clinical testing group Ergomed for £703mn.

The value of private credit has risen to some $1.5tn, according to data group Prequin, though that represents capital allocated rather than fully invested. JPMorgan Asset management estimates the total will exceed $2.5tn by the end of 2027.

Only a small proportion of commitments — some $220bn — is targeted at Europe. Here, the usual litany of financiers’ gripes applies: businesses are smaller, markets are fragmented and growth is anaemic. That could be one reason for Brookfield and perhaps AGL to team up with European banks. Harnessed to SocGen and Barclays, their funds should be able to originate loans that might otherwise only result from resource-intense European expansion.

Barclays and SocGen already have big European networks. Partnerships give them the chance to deploy their loan origination skills in a way that earns fees but does not require extra buffer capital.

We should not exaggerate the challenge private credit poses to banks in the core activity of commercial loans, worth some €20tn in the EU alone. Private credit remains linked to buyouts. Bank bosses should only feel worried when alternative asset managers are regularly lending billions for general corporate purposes.

EU regulators are, meanwhile, pondering whether displacement of a subset of corporate loans from public to relatively illiquid private markets increases systemic risks. Rules drafted this summer would cap the leverage of closed-end private credit funds at 300 per cent. The maximum for open-ended vehicles would be 175 per cent.

Commercial bankers can take some comfort from that. Private credit funds may not have their advantages competed away. But as they grow, they may suffer an equally galling fate: some of their unique selling points will be regulated away instead.

BlackRock and Amundi warn of rising US recession risk

Government officials and a growing number of investors believe the Federal Reserve’s interest rate rises will not damage the US economy significantly. But investment chiefs at two of the world’s largest asset managers are not so optimistic.

My New York-based colleague Kate Duguid and I spoke to investment chiefs at two of the world’s largest asset managers, BlackRock and Amundi, who warned that the risk of a US recession is rising. They’re concerned that while the US economy has largely looked resilient in the face of aggressive monetary tightening by the Fed, cracks are now appearing, notably in the labour market. 

“The probability of a recession for us is very high,” said Vincent Mortier, chief investment officer at Amundi, which manages $2.1tn. “The question mark is how deep and how long . . . We are much more concerned by the dynamics in the US than the consensus,” he said, adding that he expected the contraction to come at the end of this year or early next year. 

Rick Rieder, chief investment officer of global fixed income at BlackRock, which manages $9.4tn, said he had become more pessimistic about the state of the US economy in recent weeks. While he thought the country would avoid a severe recession, he said a slowdown had already begun. 

“We had been pretty enthusiastic about the economy. But now, ironically, when I think people have written off a recession . . . now I actually think we are seeing some tangible signs of slowdown. I don’t think you can write off a recession.” 

Both are now “overweight” US government bonds in the belief that the Fed may already be done raising rates and that Treasuries would perform well during a period of economic weakness. Both also expect the dollar to fall. 

Mortier said a weaker jobs market would sap consumer demand, putting pressure on corporate margins as companies lowered prices to compete for market share. “The US consumer is exhausted,” he said. 

Meanwhile, he thinks corporate balance sheets will become more stretched as companies depleted their cash reserves and needed to refinance at higher interest rates. “There is a wall of refinancing coming,” he added. 

Mortier also pointed to the high level of US government debt, which limited the ability for US authorities to increase support for the economy. 

Amundi is shorting the dollar, although its CIO admitted it was a “tricky” bet given that the currency was a haven asset that could benefit during market shocks.

Share buybacks on the US stock market have dropped to the slowest pace since the early stages of the Covid pandemic as rising interest rates undermine the incentive for companies to purchase their own shares, writes Nicholas Megaw in New York.

Companies in Wall Street’s benchmark S&P 500 index spent $175bn buying back shares in the three months to June, according to preliminary data from S&P. That marked a 20 per cent decline from the same quarter last year and a 19 per cent decline from the first three months of 2023.

Analysts say the slowdown is likely to mark the beginning of a longer-term trend that could put downward pressure on stock markets.

“Structural reasons as well as the interest rate environment are both contributors,” said Jill Carey Hall, equity and quant strategist at Bank of America. “We would expect buybacks to not be as big for the foreseeable future.”

Corporate buybacks have become an increasingly important but controversial part of stock markets in recent years. They can directly prop up share prices by adding to demand and also help improve profitability on an earnings per share basis by reducing the number of shares in circulation.

However, critics of share buybacks accuse company boards of using them to artificially inflate their share prices and reward senior executives instead of spending on long-term investment or increasing pay for lower-paid employees.

Private equity is in for rampant consolidation

M&A to whittle down private equity industry to 100 ‘next-generation’ firms

Consolidation in private equity is rife right now, with deals this month including CVC’s purchase of a majority stake in Dutch infrastructure investor DIF Capital Partners, and Bridgepoint’s acquisition of US-based renewables specialist Energy Capital Partners.

One leading European private equity firm has a particularly stark prediction for how this wave of dealmaking might whittle down the sector to a fraction of the number of players it has today, write my colleagues Chris Flood and Will Louch in London.

The number of private market fund managers will shrink to as few as 100 over the next decade as higher interest rates, fundraising challenges and increasing regulatory costs drive a massive wave of consolidation, reckons David Layton, chief executive of Partners Group which oversees assets of $142bn. 

Layton said in an interview that private markets had entered a “new phase of maturation and consolidation”. Managers responding to fundraising pressures in more difficult economic conditions and shifting towards wealthy individual clients as a driver of new asset growth, would drive a significant rise in mergers and acquisition activity.

Here’s how this could play out, says Layton:

“It is really only the large players that can withstand the forces reshaping the private markets industry. We could see the current 11,000 or so industry participants shrink to as few as 100 next-generation platforms that matter over the next decade.” 

Assets held in illiquid private market strategies stood at $12tn at the end of December, according to consultancy Preqin. The firm estimated that total private markets fundraising dropped 8.5 per cent last year to $1.5tn with net inflows into private equity managers down 7.9 per cent to $677bn in 2022.

Many smaller PE managers have found the process of attracting new business increasingly difficult. The top 25 largest competitors have captured more than a third of the $506bn of new capital allocated to PE so far this year.

Layton added: “There is a real bifurcation between the managers that can raise money and those that cannot. This will accelerate the process of natural selection as the industry grows in size.”