Global stock markets came roaring back last week, ending a run of seven consecutive weekly declines with large gains seen in the US, UK and Europe. The strong rally out of oversold conditions was welcomed by investors, with the MSCI All Country World Index gaining 5.1% on the week, recouping almost all its losses for the month of May.
The US led the way higher with all sectors advancing and consumer discretionary and energy stocks performing particularly well. Positive share price reactions to the latest earnings updates from Dollar General and Macy’s were in contrast to those seen for Walmart and Target recently, painting a mixed picture on consumer spending at present and suggesting the absence of a clean overarching narrative for the sector.
The broad nature of the rally came on growing optimism that inflationary pressures could be peaking, supported by the release of what is believed to be the Federal Reserve’s favoured measure of inflation. The latest core personal consumption expenditure index came it at 4.9% on an annualised basis, below March’s 5.2% reading.
The US 10-year yield fell for a third consecutive week to end at 2.74%, suggesting bond markets are also pricing in a potential peak in inflation and starting to focus more on growth prospects. On this front the latest data was not too encouraging as the most recent flash purchasing managers indices (PMIs), seen as leading indicators of economic activity, pointed to a slowdown. The services PMI was weaker than its manufacturing equivalent, falling more than expected to 53.5 from 55.6 previously.
The minutes of the Federal Reserve’s interest rate decision at the start of the month contained little by the way of surprises, as all members showed support for further 50 basis point hikes at the next few meetings to swiftly bring interest rates to a neutral level, seen as neither stimulating nor inhibiting economic growth. The market is now pricing in a year-end fed funds rate of around 2.65%, up from 1% currently but a little lower than was expected a few weeks ago. Equities responded positively to the update with US markets embarking on a rally upon the release, demonstrating that, at present, the absence of negative news can be seen as a positive catalyst given the overall level of pessimism currently on show.
Support for rising energy costs
The big news out of the UK last week was the announcement of a £15bn economic stimulus package, to help households cope with rising domestic fuel bills. It will be funded in part by a 25% “energy profit levy” that will increase the rate paid by North Sea oil and gas producers from 40% to 65%, raising £5bn this year. While a 25% level may seem extreme, it comes with a generous opportunity to offset these charges with extra tax relief on investment, although critics say it is unlikely to meaningfully incentivise a change in attitude towards investing in UK energy.
The additional tax take represents approximately 1% of cash flow for BP and Shell. Previous allowances for these firms, such as tax losses and decommissioning costs are excluded and the additional levy is said to remain in place until the end of December 2025, or when oil prices “normalise”- a term that was not defined by Rishi Sunak, chancellor of the exchequer.
The payment is targeted to help alleviate some of the additional energy costs facing consumers later this year when the energy price cap is lifted in October. There is some debate around what this will mean for UK inflation which was previously seen as receiving a further boost in the fourth quarter due to the lifting of this cap. Rishi Sunak has said the measures will have a “minimal impact” on inflation and the Office for National Statistics (ONS) have revealed its treatment of the rebate might reduce headline inflation figures. That said, several economists believe it will be inflationary, arguing that the payments will increase demand as consumers spend the money elsewhere to try and cope with the cost-of-living crisis.
UK large-cap shares rose just under 3% on the week, taking the year-to-date gain to 4.5%. The pound strengthened against the dollar, rising around 1% to 1.26 USD per GBP. Gilts also edged higher, adding three basis points to end the week at 1.92%. Markets now have the year-end Bank of England base rate at around 2.1%. As has been the case for much of the year, the performance of European shares was somewhere in between the US and UK last week, with eurozone-wide benchmarks rising 4.4%. Core eurozone bond yields ended the week slightly higher, after rising on hawkish comments from European Central Bank president Christine Lagarde suggesting positive rates were possible by year-end, before paring the gains on weaker-than-expected PMI data.
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