Markets mustered a gain last week, snapping a three-week losing streak, as the focus remains on Fed rate hikes, inflation, and their implications for the economy ahead. Some moderating inflation fears may have also been at work, and a midweek decline in oil prices which briefly hit their lowest level since Russia’s invasion of Ukraine causing energy shares to underperform within the S&P 500 Index, although the sector still recorded a gain.
US markets posted a gain of 3.6% as investors sort a temporary bottom to the recent market declines. Shares in Europe rose after some countries announced plans to deal with the energy crisis and boost their economies. In local currency terms, the pan-European STOXX Europe 600 Index ended the week 1.06% higher. Major indexes also posted gains with the UK’s FTSE 100 Index increasing 0.96%. Japan’s stock markets rose over the week, with the Nikkei 225 Index gaining 2.04%. China’s stock markets also rose as tame inflation data and expectations of further policy support prompted buying, with the Shanghai Composite Index advancing 2.4% for the week.
The British pound depreciated further against the U.S. dollar before retracing to roughly USD 1.16, a level near the low hit in 1985. This weakness appeared to stem, in part, from uncertainty about the economic agenda of new UK Prime Minister Liz Truss. The euro rose above parity with the U.S. dollar after the ECB hiked its key rates by a record amount.
The ECB increased its key interest rates by a record 0.75 percentage point in a bid to curb inflation. The deposit rate now stands at 0.75%, the highest levels since 2011. The ECB explained in its official statement the major step frontloads the transition from accommodative policy rates to levels suited to achieve a return to the ECB’s 2% inflation target. Even so, the central bank indicated that more rate increases are likely.
New UK Prime Minister, Liz Truss, announced that the government would intervene to help reduce soaring energy costs for British households and businesses. The Financial Times reported that internal government estimates showed the size of the package could be around GBP 150 billion—bigger than bailouts during the COVID-19 crisis and would be funded by government borrowing. In Germany, Chancellor Olaf Scholz said the government will spend EUR 65 billion to shield households and businesses, raising the monies from a tax on electricity companies and a planned corporate tax.
The yield on the benchmark 10-year U.S. Treasury note jumped to its highest level since mid-June at the start of the trading week on Tuesday, attributed to anticipation of a large European Central Bank interest rate increase on Thursday and ended the week at 3.31%.
After another period of market volatility, we know the equity market lows in June priced in a mild recession and pessimism around the economic and earnings outlook. Whilst there may be further weakness in the global economy from here, that doesn’t necessarily mean markets are destined to take another leg lower. However, for markets to stage a durable recovery we need to see consistently declining inflation, resilience in economic growth and corporate earnings, alongside the valuation re-pricing we have seen so far this year.
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