It’s been another day of surging yields and risk averse stock markets today, as the hangover from Friday’s hot US CPI number, carried over into a new trading week, with the FTSE100 sliding back towards its lows last month, with the DAX not too far behind it.
Asia markets carried over from where US markets left off last week with sentiment also struggling on reports out of China, that authorities are looking to reimpose Covid restrictions in Shanghai and Beijing, as infection rates rise again.
This has fed into a narrative that the global economy will slow even further at a time when prices are showing little sign of doing the same.
This panic over more embedded inflation has led to an expectation of a much more aggressive Federal Reserve helping to push US bond yields sharply higher, and back to levels last seen in 2007 on the 5-year and 2-year measures. European yields have also surged higher with the Italian 10 year rising above 4% for the first time since 2014, while the German 2 year yield rose above 1% for the first time since July 2011.
The wider concern is that central banks have no good options. They are now on the horns of a dilemma, allow inflation to rise and be sticky for longer, or hike aggressively to get on top of inflation in order to be able to cut rates later down the line.
The first option of being less aggressive on rate hikes and allowing inflation to remain elevated risks tipping the economy into a prolonged period of stagflation, and/or recession. The second option of front-loading hikes, runs the risk of tipping the economy into a sharper recession, bringing inflation down that way, with a view to cutting rates again two years down the line.
The biggest fallers have been in basic resources, as well as consumer discretionary/retail where there is the biggest concern over high valuations, and weak earnings.
Weakness in airlines and travel and leisure has been most notable today with falls in the likes of Holiday Inn owner IHG, Premier Inn owner Whitbread, while IAG, easyJet, Wizz Air and TUI are all down heavily.
US markets opened sharply lower today, as the hangover from Friday’s US CPI number carried over into a new week of trading, with the S&P500 sliding to its lowest level in over a year, while the Nasdaq 100 fell to its lowest level since November 2020, both falling into a bear market.
Nervousness over a more aggressive Federal Reserve, and a weaker growth outlook is prompting weakness across the board.
That doesn’t mean we will get a 75bps rate hike this week as some have been suggesting, but we could get 75bps in July, and we won’t see a pause in September. A 75bps move this week would smack of panic based on a single CPI number. It’s unlikely the Fed would do that.
The biggest fallers have been in the crypto space with big declines for the likes of MicroStrategy and Coinbase after bitcoin fell below $30k and the rest of the crypto space fell sharply after crypto lending platform Celsius paused withdrawals early this morning, due to extreme market volatility. This move has been replicated by Binance.
After a big decline on Friday, after downgrading its outlook, DocuSign has slipped to two-year lows after being on the receiving end of a broker downgrade.
The US dollar has once again been one of the best performers today, hitting its highest levels against the Japanese yen since 1998, although the yen has managed to claw back some ground after a Japanese government official said that Tokyo was ready to respond to the yen weakness if needed.
The US dollar index has moved back to within touching distance of its May peaks at 105.
Today’s sharp -0.3% contraction in April UK GDP has seen the pound come under further pressure, prompting some to suggest that a 50bps rate hike is unlikely to happen this week, and that the central bank will be more conservative, with a 25bps rate move on Thursday. While on the face of it this seems a logical conclusion to draw, this seems rather dubious reasoning.
There are plenty of reasons for the Bank of England to not be aggressive, however today’s April GDP number probably isn’t one of them. The MPC has been weak on inflation and forward guidance for years, so while today’s GDP numbers offer a convenient excuse, even if they’d been good the Bank of England would have probably fluffed any aggressive rate rise.
Like most central banks, they face having to make a call between two bad options. Act in a weak fashion, thus falling behind other central banks, and risk inflation being much more persistent, weakening the pound, which will slow the economy anyway, or hike aggressively, in the hope of keeping a lid on inflation, and slowing the economy that way.
Most of the decline in April GDP was down to the ending of “test and trace” as the Covid free testing regime came to an end. Given that this is a one-off effect, and won’t be repeated, the actual numbers, although poor, aren’t as bad as they appear on first glance, despite the difficult macro backdrop.
That doesn’t mean that we aren’t in for a difficult period over the summer, but as an argument for the Bank of England to not go for a 50bps move on Thursday, the link is tenuous at best. If they don’t go for a 50bps this week, they are unlikely to do it later in the year. After all, its not as if the data can improve significantly in the meantime, with another energy price hike coming in the autumn.
Demand concerns out of China, as well as a stronger US dollar are weighing on crude oil prices, sliding back from last week’s 3-month highs.
Less than a week after announcing an economic reopening Chinese authorities have started to reimpose covid restrictions in Beijing as well as Shanghai, as their zero-covid strategy continues to throttle the economy, although the losses are fairly modest when compared to weakness elsewhere in the commodity space.
This in turn is translating into sharp falls in precious and base metals prices with copper sharply lower along with platinum and palladium.
The continued surge in US yields to levels last seen in 2007, along with the strength of the US dollar is also seeing gold prices retreat sharply away from the 50-day MA, reversing the rise seen at the end of last week, with support around the May lows at $1,800.
As the week drew to a close, the Turkish Lira remained dominant with some erratic movement against the US Dollar being seen during Friday’s session. The trend remains bullish for the greenback, but on several occasions, we saw the pair break below the 17 levels, albeit briefly. Daily vol on Friday reached 38.96%, up from 18.35% on the month.
US Natural Gas also continued to see elevated levels of price action right up to the weekend break, with the market remaining turbulent. Warm weather in Europe is reported to be helping ease prices here despite US inventories being meaningfully lower than average for the time of year. Daily vol stays at 103% against 82% on the month.
The Italian stock market faced something of a shake-down on Friday as fears over the impact of ECB rate hikes on weaker Eurozone economies played out. The local index fell by more than 5% as investors took flight, driving daily vol to 30.9% against a one-month figure of 23.96%.
Finally, another earnings miss from the US Tech sector – this time it was DocuSign’s turn – saw its shares lose almost a quarter of their value on Friday. Many are seeing this as a signal that the pandemic era boom is now over for collaborative tech companies like this, although ultimately this shows that big moves off the back of some earnings updates are still to be expected given overinflated asset valuations. Daily vol hit 609% against 240% on the month.