Market Overview: Actions speak louder than words

There were modest declines in global equities last week with stocks paring some of the prior week’s sizable gains. Truncated by a US bank holiday on Monday, for Memorial Day, and a double UK bank holiday, for the Queen’s Platinum Jubilee, the week’s trade saw volatility moderate further as investors continue to weigh up the latest dynamics on inflation and economic activity.

The US dominated the week’s economic data with a series of releases that offered little to suggest an impending recession. Another solid update on the labour market was the standout data point, showing employers added 390k nonfarm jobs in May, comfortably above the consensus forecast of 320k. What is more, the unemployment rate held steady at 3.6% while average earnings growth ticked down to 5.2% annualised after 5.5% in April, suggesting broader cyclical price pressures could be close to peaking.

The strong payrolls contributed to a notable increase in US Treasury yields, as the 10-year rose 20 basis points on the week to end at 2.94%. Quantitative Tightening in the US has now begun, adding a new dynamic to the bond market. The Federal Reserve plans to absorb cash, selling bonds or letting them mature, to the tune of US$47.5bn a month, in time increasing up to US$95bn a month, as it seeks to reduce its US$9tn of assets held on its balance sheet.

Yields were also boosted by a jump in Eurozone inflation to 8.1% year-on-year, a new record peak, and news the EU will ban most Russian oil imports by year-end. Inflationary pressures in the bloc differ in origin from those seen in the US as they are predominantly caused by energy scarcity, rather than tight US labour markets contributing to demand-pull inflation.

In Europe it is more a case of cost-push inflation, clearly exacerbated by events in Ukraine. This is demonstrated by the fact that core EU inflation, which strips out energy and food, came in at 3.8% year-on-year. The situation will not be helped by news of further Russian sanctions which pushed international oil benchmark brent crude back above the US$120/barrel level, gaining around 4.6% on the week. The impact could be seen in sizable weekly gains for core eurozone government bond yields with the German 10-year bund rising 31 basis points to close at 1.27%.

ECB to begin hiking imminently

Philip Lane, the European Central Bank’s chief economist, signalled a 25 basis point rate rise in July and the same size move in September, saying this margin was the governing council’s “benchmark”. Markets are pricing in approximately 100 basis point of rate increases by the end of 2022, with the deposit rate currently still at its record low of -0.5%.

In Europe, shares fell around 0.6% on the week, marginally more than the 0.5% loss seen in the MSCI All Country World Index. Still, for the month of May they gained more than 1%, outperforming the global benchmark which just managed to end in positive territory. US large-cap shares posted a decline of just over 1% on the week but still managed to eke out a small gain for the month of May. Industrials and consumer discretionary shares outperformed, boosted by a rise in Boeing and Value stocks underperformed their growth counterparts while small-caps proved more resilient than large-caps.

Although the Conference Board’s consumer confidence index fell in May, most of the US data for the week was suggestive of a continued economic expansion. The ISM manufacturing release for May showed an unexpected acceleration in activity and while the services sector equivalent fell to its lowest level in a year, it is still comfortably in expansionary territory at 55.9. 50 is the level which denotes expansion and contraction.

In the UK, the stock market closed for the week on Wednesday down around 0.6%, but still posted a gain of 1.1% for May and almost 4% year-to-date. Sterling weakened a little against the US dollar, ending the week at 1.25, down from 1.26. Gilt markets tracked the moves seen in the US and Europe, rising 24 basis points on the week at 2.15%.

On the data front, UK manufacturing activity in May fell to its weakest rate of expansion since January 2021, signalling further weakness in an economy struggling for momentum as households face sharply rising energy bills. 

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