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European markets struggle on more persistent inflation fears

European markets have continued to struggle today, after the IFO in Germany warned that a recession would be sharper than expected in the second half of the year, and UK core inflation unexpectedly jumped to a new 32 year high.

Europe

This has raised concerns that central banks will look through concerns over an economic slowdown in the second half of this year, and simply treat it as a necessary side-effect of their willingness to push inflation back down to their 2% target. The Bank of England is expected to pull the trigger on another rate hike tomorrow, with some suggesting that we might see a 50bps hike, instead of the 25bps that is currently expected.  

The FTSE100 has struggled, with house builders feeling the heat from today’s UK inflation numbers, along with a sharp rise in gilt yields, as concerns about a housing market slowdown gather pace, which in turn is acting as a drag on Barratt Developments and Taylor Wimpey.

The banks are also under pressure after a note from Exane Paribas warning that UK banks could face a perfect storm of higher rates hurting, rather than helping, when it comes to the outlook for loans and deposits. Downgrades to NatWest Group and Lloyds Banking Group has seen the shares of both drop with NatWest shares falling to their lowest levels since November 2022.

Weakness in packaging stocks Smurfit Kappa and DS Smith appears to be because of a negative read across from disappointing H1 sales numbers from Austria’s Mayr-Melnof.    

US

US markets have taken their cues from the early weakness in European markets, opening modestly lower, as recession fears in Europe increase further.

FedEx is not offering much of a lift after the company warned on its outlook for next year, sending the shares lower in early trade. FedEx has already taken steps to boost its margins in recent quarters, by focussing on reducing the number of flights, grounding planes, and reducing office space along with the intention to reduce headcount in the US by 25k.

In April, the company outlined plans to consolidate its express package and ground delivery units to make a further $4bn in savings. Last night Q4 revenues came in short of expectations at $21.93bn, although profits were slightly better coming in at $4.94c a share. Full year revenues also came up short at $90.2bn, with the company saying it expects to see flat revenue for 2024, and EPS at the bottom end of between $16.50c and $18.50c a share. 

A rebound in cryptocurrencies is helping the crypto space, with gains for Coinbase, Marathon Holdings and Riot Platforms.

Spotify shares are modestly higher after it announced plans to implement a premium service by the end of this year, in a move which would put it up against Apple’s iTunes, and Amazon Music. Spotify said it saw a 5m rise in subscriber numbers in Q1. 

FX

The pound has slipped back after core CPI inflation for May jumped higher to 7.1%, which in turn saw UK 2-year gilt yields jump to their highest levels since 2008. This in turn has seen swap markets quickly adjust their expectations for bank rate to rise to 6%, by the end of this year, 150 bps above where we are now. This still comes across as very pessimistic and we should remember that today’s numbers are a single data item. It wouldn’t take much for this pessimism to reverse if subsequent data shows that the UK economy is holding up well. 

The Japanese yen is also losing ground on the back of the stronger US dollar and the hawkishness testimony of Fed chair Jay Powell.         

Commodities

Crude oil prices are currently treading water caught in a bit of a no-mans land between concerns over Chinese, as well as European demand, which is helping to keep a lid on prices, while being supported by the prospect of US a buyer of last resort as the US looks to refill its SPR.

Gold prices have continued to come under pressure on the back of rising yields, and a stronger US dollar, slipping to 3-month lows, after Fed chairman Jay Powell repeated that the Fed expects to raise rates further in the coming months and that the return of a 2% target has a long way to go.     

Volatility.

Soft commodity prices were back in focus on Tuesday amidst concern that drier than normal conditions in the US could adversely impact the upcoming harvests. Corn has pushed out to two-month highs with one day vol printing 40.32% against 31.74% on the month, whilst this pattern was repeated amongst other crops, too. One day vol on Wheat stood at 43.53% against 39.7% for the month, whilst Soybean vol was 31.6% on the day and 24.25% on the month.

US dollar strength served to push gold prices down close to three-month lows. With Federal Reserve officials testifying to lawmakers in Washington this week, there’s growing conviction that more rate hikes are to come – something that was arguably underlined by upbeat US economic news yesterday. This move is having an adverse impact on those companies involved in the production of gold, something that is reflected in CMC’s proprietary basket of 15 US based stocks with exposure to the gold mining industry. The underling fell by more than 4% on Tuesday with one day vol of 42.15% against 36.9% on the month.

And at a stock specific level, Baidu has been an active trade of late. The Chinese economic slowdown is weighing, but some support has emerged off the back of those government driven stimulus measures, whilst analysts have also tipped the company as being the strongest AI play in China, too. One day vol stood at 72.63% against 57.35% for the month. 


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