Markets last week
Risk markets suffered another major drop last week, through a combination of higher bond yields, weaker surveys, a surprising inflation surge in the US and heightened fears of central bank tightening going beyond current expectations. In the UK, economic growth turned negative in April with all sectors in the red.
The European Central Bank (ECB) announced the start of its rate hiking programme, triggering major bond yield rises in eurozone markets and in other government bonds, too.
Although Chinese and Japanese PPIs (producer price index) fell, reducing the pressure on global supply chains, the latest reading for US inflation exceeded expectations, with the CPI (consumer price index) surging to another 40-year high of 8.6%. Even the core reading ex food and energy was above estimates at 6.0%. This was the final straw during the week for risk investors, leading to 3% drops in Europe and the US on Friday alone.
Over the week, government bond yields soared by more than 20 bps, with gilts actually closer to a 30 bp increase. US treasury yields rose above 3% across the curve from two years to 30 years, foreshadowing further hikes from the US Federal Reserve (Fed), beyond what they have already let on.
Equity markets reacted sharply to these rising yields, with European and US shares doing worst, financials and information technology once again falling the most, while energy was the most defensive sector. Asian markets were much more resilient than western markets, partly due to the major divergence in monetary policy (with China stimulating its economy) and partly to the lifting of some lockdowns. Chinese technology shares did better than US tech. The Hong Kong market has been one of the havens in this latest turmoil and posted strong gains last week (but this morning it is following western markets down). Japanese equities were positive in yen terms, although once again the yen was weak.
The US dollar resumed its uptrend after a 3% correction, with a strong recovery vs. all major developed currencies.
Gold recovered to finish the week up 1%. Oil prices fluctuated but ended the week up nearly 2% for Brent, at US$122/bbl.
The week ahead
Tuesday/Wednesday: US PPI, plus import and export prices
Our thoughts: US prices don’t seem to be getting a break these days, just when many commentators were starting to hint at “peak inflation”. Consumers are being hit from many sources now, but the supply chain and industrial goods are still a main factor. In that respect, the US PPI (producer price index) will be an important sign. The world is seeing diverging PPIs, with Asian PPIs falling whilst European PPIs are soaring. Where will the US fall, at double digits now? A slight moderation is expected, but even producer prices ex food and energy are dangerously high. Separately, but equally vital to the US, due to the massive trade deficit, import prices the next day will be another sign of future inflationary trends.
Wednesday: Fed meeting
Our thoughts: just when we thought we knew what the US Federal Reserve (Fed) was going to do, the US CPI (consumer price index) throws a major spanner in the works. Markets were lazily assuming that they could take Fed Chair Powell’s words at face value that 50 bp hikes were on the cards for the June and July meetings. It’s not so clear now, as there is a large percentage of investors expecting 75 bps this week. Although it seems to be a knee-jerk reaction based on one data point, the uncertainty is nevertheless there. It would be unusual for the Fed not to make some additional hawkish comment at the very least based on the recent spike in CPI and there might even be a hint of further tightening than anticipated. One possibility is that the market reaction to price rises on Friday might have taken the sting out of any more steps to be taken by the Fed this week. Markets will be agog all the same.
Thursday: Bank of England MPC meeting
Our thoughts: the threesome of major central bank meetings ends with the Bank of England’s MPC (Monetary Policy Committee) this week. Gilt yields have been rising faster than US treasuries, leading many to believe that the MPC will step up the hawkishness. It’s a question of just how much and how many MPC members dissent in favour of a bigger hike. The direction is very clear. The commentary will be parsed very carefully for hints of further changes in the next few meetings.
The numbers for the week
Sources: FTSE, Canaccord Genuity Wealth Management
Central banks/fiscal policy
Major ECB change announced
The European Central Bank (ECB) had a watershed meeting where they finally started a major change in monetary policy. They announced that they would raise rates by 25 bps at the next meeting in July. They also said that there would be a “gradual but sustained path” of tightening from September on, also that they would be flexible on the size of the hike depending on inflation (and could hike by 50 bps if inflation warrants a tougher stance). It is worth noting that the ECB’s main deposit facility rate is a negative -0.50% right now.
In terms of the end of their quantitative easing programme, they stated that they will end asset purchases on 1 July.
Their inflation forecasts were amended upwards, from 5.1% to 6.8% in 2022, from 2.1% to 3.5% for 2023 and up to 2.1% in 2024. Their growth forecasts were reduced from 3.7% to 2.8% in 2022, to 2.1% from 2.8% in 2023 and in 2024 upward from 1.6% to 2.1%.
Markets increased the tightening expected this year by 5 bps only, but bond yields soared in the eurozone, rising from 9bps to 24bps on the day depending on the country.
Another shock on inflation and a low on consumer sentiment survey
Growth: the Atlanta Fed’s GDP tracking model for Q2 real GDP was lowered from 1.3% to 0.9%.
Trade: the April trade deficit narrowed dramatically from the March level. Good news, since the negative GDP print for Q1 was caused by imports.
Credit: consumer credit continued to grow at a rapid pace in April, with total consumer credit increasing by US$38bn. Annual credit growth accelerated from 7.1% to 7.5%, with revolving credit growth increasing 13.1% year-on-year, its strongest pace since January 1997.
Housing: mortgage applications fell 6.5% for the week. Since March, with few exceptions, mortgage apps have been falling quite sharply. The 5.4% mortgage rate and high property prices are the cause.
Surveys: the University of Michigan consumer sentiment index declined 8.2 to 50.2, the lowest reading in the history of the survey (started in 1952). Current economic conditions fell 7.9 to 55.4 (also a record low), and expectations fell 8.4 to 46.8, the lowest reading since May 1980.
Inflation: the CPI (consumer price index) accelerated from 8.3% to 8.6%, the highest level since December 1981. The core CPI (ex food and energy) fell somewhat from 6.2% to 6%. The main components of the year-on-year rise were: energy, up 34.6% and food 10.1%. During the month core goods prices increased 0.7% after softer readings in the prior three months.
The University of Michigan inflation expectations for the year ahead held at 5.4%, but the 5-to-10-year inflation expectations rose 0.3% to 3.3%, the highest level since June 2008.
Has the housing market finally peaked in the UK? Growth turns negative
Sales: the BRC sales like-for-like fell 1.5% in May after a previous 1.7% drop.
Surveys: the construction PMI fell from a high 58.2 to 56.4. The final services PMI was upgraded from 51.8 to 53.4.
Housing: the RICS house price balance fell sharply from 80% to 73% in May. Demand for UK homes fell for the first time since August last month.
Inflation: the Bank of England/Ipsos inflation forecast for the next 12 months rose from 4.3% to 4.6% in May.
Growth: in April, UK growth was negative -0.3% (and the prior month was revised down to -0.1%), with the 3 month/3 month growth at 0.2% down from 0.8% before. Manufacturing fell 1% in April, construction output fell 0.4%, services were down 0.3% and the trade balance was slightly better than the previous month at £20.9bn deficit vs. £23.9bn.
Not much improvement in the data
Surveys: the eurozone Sentix investor confidence was a little better at -15.8 vs. -22.6, rebounding from a level that was the post-COVID-19 low.
Industry: German factory orders for April fell 2.7%, after 4.2% the prior month, but industrial production managed to eke out a positive +0.7%.
Growth: the final GDP growth number for Q1 was upgraded from 0.3% to 0.6%.
Chinese exports recover whilst producer prices abate
China: export growth unexpectedly rose to 16.9% year-on-year in May, as disruptions to production were eased during the month. Imports increased 4.1%, due to muted domestic demand. Interestingly, Chinese exports to the US in the first five months grew 12.9% and imports rose 2.1%, with the trade surplus with the US widening to US$153bn during the period. Foreign exchange reserves were slightly higher, at US$3,127.7bn vs. US$3,119.7bn.
Inflation moderated. The PPI (producer price index), which matters to importers round the world, dropped from 8.0% to 6.4% with the CPI (consumer price index) remaining at 2.1%.
Money supply was relatively solid, with M0 rising from 11.4% year-on-year to 13.5%, M1 from 5.1% to 4.6% and M2 from 10.5% to 11.1%
Japan: the leading index CI rose sharply from 100.8 to 102.9 with the coincident index unchanged. Likewise, the Eco Watchers survey jumped from 50.4 to 54.0 for the current situation and from 50.3 to 52.5 for the outlook. Household spending in April fell 1.7%, better than the -23.3% the previous month. Labour cash earnings eased to +1.7% from 2.0%. Bankruptcies soared, up 11.01% in May from 1.88% the prior month.
Machine tool orders were up 23.7% year-on-year in May, slightly down from 25% the previous month.
The PPI (producer price index) registered 0% in May, down from 1.3% previously, for a 9.1% year-on-year growth, down from 9.8%.
Oil and gold rising with other commodities falling
Another spike in oil prices, further compounded by the stronger US dollar, added to the impact on global markets. Despite the overall negativity during the week, energy shares were still the leader, reflecting a near 2% rise in the Brent and WTI gauges. Oil prices are diverging from other commodities, though, with industrial metals, natural gas and soft commodities weakening. Gold managed to eke out a further gain during the week, setting the stage for another stab at breaking the US$1,900 level.