Weekly Comment: Stock markets gain as economic data softens

Last week saw solid gains for global equity markets with the MSCI All Country World Index rallying around 3.2%. Stocks managed to rise despite, or arguably in part because of, a fairly soft overall batch of economic data. Growing concerns for an economic slowdown cause bond yields to fall back lower, offering a reprieve from the rising-rate headwind that has hindered stock markets for much of the year. Whether this move in fixed interest markets persists is subject to some debate, and much will depend on the forthcoming Federal Reserve (Fed) policy meeting, where another 0.75% interest rate hike is expected.

Second-quarter earnings reports have overall been fairly solid thus far, demonstrating some resilience in profits as well as on the outlook. The latest leading economic indicators are painting a different picture though, with purchasing managers indices (PMIs) showing weakness in the US. The US flash services PMI was worse than the manufacturing equivalent, dipping to 47.0 against an expected 52.6 after a reading of 52.7 last time out. The release was the first time in two years this metric had dipped below the 50.0 line that denotes contraction and expansion. Employment data also disappointed with the US initial jobless claims last Thursday coming in at 251k – the highest level in nine months.

The data pushed bond yields lower and the US 10-year Treasury note end Friday at its lowest level in two months, at 2.75%. Falling yields have provided some support to growth stocks and last week growth shares outperformed value while small-cap outperformed large-cap.

UK large-cap benchmarks moved back into positive territory on the year, adding around 1.6% on the week. Inflation hit a new 40-year high with the UK consumer price index (CPI) for May rising to 9.4% year-on-year. The latest employment data continued to paint a picture of strength while PMIs and retail sales also topped estimates. The 10-year gilt yield ended the week down at 1.94%, down from 2.09%.

The Conservative party leadership contest has now been whittled down to two, with the winner expected to be announced in early September. Former chancellor Rishi Sunak and foreign secretary Liz Truss are now set to go head-to-head in a vote of party members.

ECB lift-off

The main economic event of last week came from the European Central Bank (ECB) announcing a 0.5% interest rate hike. With inflation in the bloc running well above the ECB’s target, the bank decided the time had come to join its peers in raising rates, delivering a move that was at the higher end of expectations.

The ECB also announced a new bond-buying tool called the Transmission Protection Instrument, aimed at mitigating market fragmentations during the hiking cycle. Despite the hike, core Eurozone bond yields fell as concerns surrounding economic growth were amplified after the release of Eurozone PMI data that indicated a contraction in July. Peripheral Eurozone bond yields ended the week little changed with the Italian 10-year government bond rising after prime minister Mario Draghi resigned, before falling back following the ECB announcement.

Renewed political instability, weaker economic data and the ECB interest rate hike did not prevent European shares from gaining on the week though, with a broad benchmark adding around 3.5%. German and French benchmarks ended around 3% higher, but Italian bourses lagged a little, returning approximately 1.8%.