Weekly Briefing: VCs chase AI opportunities, UK house prices continue to fall slightly & UK GDP on the rise

This week, we discuss the impacts of the Bank of England’s recent rate rise on the UK economy, the US debt rating being downgraded, and movements within the alternative investment industry across the globe.

UK economy

Impacts of the Bank of England's fourteenth consecutive Bank Rate rise

• The Bank of England (BoE) increased interest rates by 25 basis points to 5.25% last week, solidifying expectations that the Bank Rate will peak at 5.75% early in 2024.
• Prime Minister Rishi Sunak stated inflation is not falling as fast as he would like, and the Government must make “difficult” decisions to combat it.
• The UK’s financial regulator vowed to “take action” if banks failed to pass on these higher interest rates to savers.
• However, some banks, such as Atom Bank, are ahead of the game. 
• Research conducted for the challenger bank’s latest campaign, ‘Get Paid, Not Played’, shows, while UK adults would be over £200 better off each year if they switched to challenger banks, almost half (49%) of UK adults have never switched savings providers.
• Atom believes high street banks rely on this lack of action to keep easy access rates low and boost their profits.
• As a result, Atom are offering fixed savings rates of up to 6.05% and instant-access savings rates of 3.95% AER (as of August 2023).

Global economy

US debt rating downgraded – what does this mean for the world’s largest economy?

• Fitch Ratings has downgraded the US debt rating from triple A to double A plus – a move that implies US government bonds are a riskier investment than previously thought.
• The ratings agency said its downgrade reflected “expected fiscal deterioration over the next three years” and “a high and growing general government debt burden”. 
• US equities fell and US Treasuries yields reached nine-month highs following the debt downgrade by Fitch Ratings.
• Fitch is one of three major rating agencies whose views are closely watched by market participants and economists around the world.
• Moody’s still maintains a triple A rating on the US, while S&P slashed its rating to double A plus in 2011 after an earlier debt ceiling showdown. 
• Countering this, Janet Yellen – the US Treasury secretary – said she strongly disagreed with Fitch, calling the rating change “arbitrary and based on outdated data”.

UK tax update

High earners in the UK are leaving the Government a large tip

• Many of the individuals who currently pay higher-rate (40%) income tax in the UK are leaving the government a generous 20% tip by failing to claim the full amount of tax relief due on their pension contributions. 
• The scale of this problem first emerged in 2021, when a freedom of information request from pension provider PensionBee to HMRC suggested 80% of those eligible (some one million people per year) were not claiming the additional relief. 
• Currently, UK pension schemes attract tax relief at your marginal rate – the Government tops up your pension contributions according to the rate of income tax you pay.
   
  • Basic rate of income tax in the UK in 2023/24: 20%
  • Higher rate of income tax in the UK in 2023/24: 40%
  • Additional rate of income tax in the UK in 2023/24: 45%

• However, for all Self-Invested Personal Pensions (SIPPs) and many company pension schemes, the additional tax relief available for higher rate taxpayers must be claimed separately. This is what over one million people are missing each year. 
• The good news is, once you realise you have been missing out on higher-rate relief, it is possible to backdate claims by up to four years.
• Importantly, UK personal income tax allowances have effectively been frozen since 2019/2020, which HMRC estimates has already moved 1.7m formerly basic-rate taxpayers into the higher tax bracket, with further estimates that another 2.4m will become higher-rate taxpayers by the time the freeze is set to end in 2028.
  
  

Impact investing

US records significant AUM growth across three main ESG strategies

• In recent years, there's been significant AUM growth across the three main ESG strategies in the US: Article 8, Article 9, and Impact. 
• According to the latest data in Preqin’s Trending Data series, AUM at Article 8 funds rose by over 54% (from $89.9bn to $138.8bn) between 2020 and Q2 2022. 
• Impact strategies experienced even more impressive growth, jumping 123% from $38.2bn to $85.1bn. 
• Meanwhile, Article 9 AUM increased by 49% to $28.5bn.
• Article 8 has less stringent ESG requirements, in that products do not necessarily have to include sustainable investment as a primary objective, but do have to include these considerations to rule out harmful investments. 
• These less stringent requirements, compared with Article 9 or impact, have certainly contributed to capital inflows into such funds. 
• Impact strategies experienced even more impressive growth in AUM, with the North American market showing an affinity for impact strategies. 
• Despite negative media coverage on ESG in the US over the past year, interest in impact funds persists.
• Globally, environmental regulations are becoming more defined and stringent, and investor sentiment continues to reflect a sustained interest in incorporating some level of ESG consideration in investment practices. 
• The trend of growth in ESG and ESG-related strategies continues, driven by the increasing emphasis on sustainable and responsible investment practices.

Venture capital

VCs chase AI opportunities at record pace

• AI startups have seemingly defied the overall decline in VC funding of the past 18 months, collectively raising $15.5bn this year, according to PitchBook data. 
• Even when you exclude OpenAI's $10bn round, the sector's VC funding in 2023 has surpassed last year's total and is well over halfway to 2021's peak of $9.1bn. 
• In addition, deal pace has remained steady, and median post-money valuation is up 109.8% from last year.
• While VCs have become more cautious with the downturn, the eagerness of some investors to allocate capital into very early-stage AI startups suggests some of the drive from 2021 remains.
• For example, a three-month-old AI startup founded by former Salesforce co-CEO and an ex-Google executive raised its first funding round at a valuation of more than $100m, and Inflection AI attracted $1.3bn – despite only being a year old. It's now worth $4bn.
• With AI still in its very early stages, this recent investment activity may suggest a kind of herd mentality has taken hold.

Private equity

Increased fundraising for European PE

• Despite PE deal values falling significantly from 2022 and overall market activity remaining muted due to macroeconomic factors, there were some areas of optimism in PitchBook's Q2 2023 European PE Breakdown.
• While exit value is down 31.6% year-on-year, it has risen from the previous quarter by 28.8% to €68bn (about $75.6bn), driven largely by mega-exits. 
• Additionally, fundraising was propelled by mega-funds and is on track to exceed last year's levels. 
• Further hope was provided by specific countries in the region, with France a standout performer.

Property

UK house prices in July 2023 were 2.4% lower than the same month a year earlier

• The average house price in the UK in July 2023 stood at £285,044, according to the latest Halifax House Price Index.
• This represents a minor month-on-month decline of -0.3% (equivalent to a drop of around £1,000 in cash terms).
• When comparing this data with house prices in July 2022, the figure is -2.4% lower than a year ago.
• Compared to the UK’s year-on-year house price change recorded in June 2023 (-2.6%), the annual pace of house price decline appears to be slowing.
• These figures add to the sense of a housing market which continues to display a degree of resilience in the face of tough economic headwinds, with activity among first-time buyers proving particularly resilient.
• Kim Kinnaird, Director, Halifax Mortgages, stated:

The continued affordability squeeze will mean constrained market activity persists, and we expect house prices to continue to fall into next year. Based on our current economic assumptions, we anticipate that being a gradual rather than a precipitous decline. And one that is unlikely to fully reverse the house price growth recorded over recent years, with average property prices still some £45,000 (+19%) above pre-Covid levels.

A final note

Overall, with inflation still posing a challenge, the UK economy continues to remain resilient. House prices are fairly constant and it was announced today that UK GDP grew 0.2% between April and June 2023. For many investors, this may provide more cause for optimism in the near future.