Market Overview: Stocks decline as US inflation remains stubbornly high

A new cyclical high for US inflation soured investor sentiment last week, with selling in global equity markets accelerating into the weekend and the MSCI All Country World Index ending more than 4% lower and posting its worst weekly decline since October 2020.

US consumer price growth accelerated in May as the annual inflation rate rose to 8.6%, the highest level since December 1981. The headline reading increased from 8.3% in the prior month, the level the consensus forecast was looking for again this time out, and surpassed the previous cycle peak of 8.5% in March. The concern for markets is not so much that this metric will continue to rise significantly, rather the worry lies in that it appears increasingly likely that price pressures won’t return to more acceptable levels as swiftly as many had hoped. Further supporting this notion was the core reading, which strips out food and energy, climbing to 6% and topping consensus estimates.

The acceleration in inflation keeps the pressure on the Federal Reserve going into its forthcoming policy meeting on 14-15 June. Markets had been expecting another 50 basis point hike at this meeting for much of the last six weeks, but the risks are now growing of a more hawkish surprise with support for a 75 basis point move gaining traction.  Despite some strength in the early part of last week, US large cap stock indices ended around 5% lower, taking the year-to-date decline to just shy of 18%.

Tech-focused indices were hit harder than the broad market as rising rates weighs on the allure of companies that are not expected to generate sizable earnings for the foreseeable future. Value stocks held up better than growth shares and small-caps outperformed large-caps, though overall they were also lower on the week.  US Treasury yields increased with the 10-year bond rising 22 basis points to end the week at 3.16%.

British prime minister Boris Johnson survived a confidence vote from the Conservative Party, but the relatively narrow winning margin leaves his authority badly damaged. 148, or 41%, of Johnson’s MPs in the ballot voted to oust him, more than the 37% that voted against his predecessor Theresa May in 2018 – six months before she was forced to resign.

Large-cap UK stocks were caught up in the broader market selling, but as has been the case for much of 2022, they outperformed their US and European peers, declining around 2.8% on the week. The pound also slid lower, with the GBP/USD exchange rate ending near 1.23, a loss of a little more than 1% for the week. Government bond yields gained a substantial amount, with the 10-year gilt yield jumping 30 basis points to 2.45%.

European stock benchmarks performed similarly to their US counterparts, as large-cap indices declined almost 5%. The European Central Bank (ECB) signalled at its latest policy meeting that it will shortly begin to raise rates, suggesting a 25 basis point increase at next month’s meeting. The ECB also confirmed it will end net asset purchases on 1 July.

The Bank lowered its economic growth outlook to 2.8% for the current year, down from 3.7% previously, and raised its inflation forecast to 6.8% for 2022. The inflation projections now have inflation remaining above its 2% target over the three-year forecast period and is now expected to only drop to 2.1% in 2024.

Core eurozone government bond yields rose following the meeting and the German 10-year bund ended the week at 1.51%, up from 1.27%. Uncertainty caused by the Ukraine conflict and weaker demand saw German industrial orders fall for a third consecutive month in April. The 2.7% drop comes after a revised 4.2% month-on-month decline in March.

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