Markets last week

A better week for risk assets, although direction was uncertain and conviction over the slight uptick in equities low. As concerns have become focused more on the potential for recession (or indeed, whether we are already in one), fears over the ability of central banks to raise interest rates as aggressively as they have promised began to abate.

This saw equities move higher, with most major indices in the black. Gains of 1%-2% were common. In the UK, despite well-publicised political shenanigans, the FTSE 100 climbed around 0.5%, with smaller companies on this occasion outperforming. Year to date the gap between the two size groups remains very large, with small-caps lagging by around 17%. Even so, it is notable that on an equally weighted basis, the FTSE 100 has performed almost as badly as the FTSE 250 index of the next largest companies, showing just how concentrated in a limited number of companies the limited gains there have been. The US bounced more, up just under 2% with the technology-rich NASDAQ index leading the way. Despite acute fears over energy supply, Europe also participated, with shares there up almost as much as in America. Japan led the way, up over 2%, with emerging markets and China the relative laggards.

In bonds, despite the more risk-on mood in equities, yields actually rose. With rapidly deteriorating economic momentum in almost all developed nations, central bankers are nonetheless hanging tough and giving no indication that they are in the mood to moderate their new-found hawkishness. Until bond yields are seen to have peaked, it is unlikely equity rallies can be comfortably sustained. In the UK, the 10-year Gilt yield climbed 15 basis points (0.15%) to 2.23%, and in the US the equivalent Treasury yield rose back above 3%, closing the week at 3.08%, an increase of 20 basis points. In Germany the 10-year Bund rose 11 basis points to 1.36%; it wasn’t all that long ago we were seeing yields there of minus 0.7%.

Sterling remained weak, buffeted by the UK’s trade deficit and political turmoil. On many measures the pound looks cheap in comparison with other currencies (on so-called ‘purchasing power parity’ measures, for instance), but lacks an obvious trigger to recover in the immediate future. Indeed, the key factor in currency markets is less sterling’s specific weakness and more the overriding strength of the US dollar, seen as a safe haven in present turbulent markets. All major currencies weakened against the greenback, with the euro notably approaching parity. Year-to-date sterling may be down 11.1% against the dollar, but the euro is almost as bad at down 10.4% and the Japanese yen even worse, with a fall of more than 15%.

The week ahead

Tuesday: ZEW investor survey in Germany

Our thoughts: the ZEW survey canvasses the views of institutional investors across the continent and is therefore driven more by market concerns than by what is actually happening on the ground in factories and offices. Given the darkening economic clouds in Europe, with the war in Ukraine and worries over energy security, it’s expected we’ll see further weakness in this widely followed survey. Last month it came in with a negative reading of -28.0, and forecasts are for a further fall to around -33.5 this time around. There is nothing in markets to suggest we might see a positive surprise when this is published on Tuesday morning.

Tuesday: US National Federation of Independent Businesses (NFIB) Business Optimism Indicator

Our thoughts: the NFIB survey is a widely-followed indicator of smaller business confidence in the US. For example, the surge it experienced after the election of Donald Trump late in 2016 gave a very good steer on the strong performance the US economy enjoyed in 2017 and early 2018. Current consensus forecasts see it dropping back a little towards around 92.8 from the last reading of 93.2 (after Trump’s election it hit an all-time high of around 108 and its lows in the global financial crisis were around 82, so current levels are slightly on the depressed side). Any especially weak print next week would be a bad sign for economic growth, but perversely could help market sentiment because it would be seen as reducing pressure on the Fed to continue with its current hawkish approach to getting on top of inflation. The primary driver of bad markets this year has been fears over what higher interest rates mean for both valuations and earnings.

Wednesday: US CPI

Our thoughts: although not the Fed’s favoured ‘Personal Consumption Expenditures’ measure of inflation, CPI is very closely monitored by investors. The headline rate, which includes food and energy, hit 8.8% last month, and although there are a few signs that some pressures from commodities are abating somewhat (in particular that perhaps gasoline prices have now peaked), any signs of a further deterioration would be taken badly by markets, especially as consensus forecasts are for a fall to 8.6% at the headline level. Bad inflation data is only going to encourage the hawks in the Fed. The core rate, excluding food and energy, is forecast to remain stable at 6%, although there are concerns that housing costs and rents, which are on a steady upwards path and which are a large component of the index, may surprise negatively over the coming months.

Central banks/fiscal policy

Central bankers remain hawkish even as markets focus increasingly on recession risks

After the sunshine and sangria of their offsite shindig in Portugal last week, it was back to the grindstone for the world’s central bankers this week. The general tenor of aggressive tightening was underscored by the Reserve Bank of Australia joining in the party with a 0.5% increase in their headline rate to 1.35% from 0.85%.

Perhaps more interestingly for Fed watchers, the minutes of the June meeting at which the FOMC raised rates by 0.75% were published. Some commentators had speculated that the Fed might include language that would allow them more easily to pivot back away from their current hawkishness, but in the event there was none. The tone was clearly designed to underscore the serious intent of the Fed to get back ahead of the curve and there was no mention of “data dependency” or other phrasing that might have paved the way for a slower speed of increase in interest rates or a gentler approach to quantitative tightening. A further 0.75% later this month is a distinct and explicit possibility, and 0.5% is absolutely nailed on.

United States

A focus on employment data this last week

Employment: there was some evidence of a slight calming of the super-hot US jobs market over the week. The Challenger job cuts survey, which measures announcements of forthcoming layoffs, rose 58% year-on-year, albeit from a very low number. Meanwhile, weekly Initial Jobless Claims data confirmed that the trend is moving up – this week’s reading was 235,000, whereas not that long ago we were seeing cycle-low figures around the 180,000 level. Even Continuing Claims, which have been more stable, are inching up; this week’s number at 1.375m was around 50,000 larger than last. The JOLTS job openings data were also weaker, at 11.3m, down from 11.7m and the QUITS rate, which measures the number of people voluntarily leaving their jobs rather than being made redundant (typically to go to a higher paying role elsewhere) fell. Despite these incipient signs of softening, the US employment market remains very firm.

This was highlighted on Friday with the publication of the monthly Non-Farms Payroll (NFPR) data, alongside the official unemployment rate and the increase in average hourly earnings. The increase in NFPR came to 372,000, which was better than expectations, even if slightly below last month’s 384,000. The official unemployment rate remained at 3.6%, pretty much at 50-year lows, whilst average hourly earnings rose 5.1%, lower than last month’s 5.3% level. The latter is important as the Fed will be watching for any signs that inflationary expectations are becoming entrenched in pay increases, so a fall here marginally eases pressure for even faster monetary tightening.

Housing: the weekly MBA mortgage applications numbers showed a continuation of cooling in the US housing market as higher interest rates bite. House price indices across the country published in previous weeks have shown rises of 20% or so over the last 12 months, but rapid Fed tightening appears to be having the desired effect. Mortgage applications fell 5.4% and the published 30-year mortgage rate, while a smidge lower at 5.74% than last week’s 5.84% (it touched 6% a few weeks ago) remains very significantly higher than a year ago.

Surveys: after last week’s ISM Manufacturing survey, this week it was the turn of the Services equivalent to provide evidence of weaker economic growth. Although the headline rate declined only marginally to 55.3 from 55.9 (and was a tad better than forecasts), there were interesting declines in both the prices paid component, which fell to a still white hot 80.1 from 82.1, but most notably, given the evidence above that the jobs market is getting tougher for employees, the employment component fell to 47.4 from 50.2.

Industry: US Factory Orders excluding Transportation (which excludes very lumpy aeroplane orders) climbed 1.7%, ahead of forecasts and last month’s 0.6% rate, demonstrating continued resilience in manufacturing.

Energy: Weekly US rig count data published by oilfield services company Baker Hughes showed a continuation of the very steady, progressive rise we’ve seen over the last 18 months, as high oil prices gradually tempt drillers back to exploration. The figure climbed to 752 from 750 last time.

United Kingdom

A generally weak tone but little major data

Although the Halifax House Price index showed the continuation of a hot residential property market in the UK, with a year-on-year gain of 13%, what little other data published in the UK this week were soft. The S&P Construction Industry PMI came in at 47.0 compared with 49.2 last time (where 50 is a neutral reading), and new car registrations data showed a further slump, with sales down 24.3% over the last year, and acceleration from last month’s figure of -20.6% (see below for similar numbers from Europe).

Europe

Weak readings across the piece

Inflation: eurozone producer price index (PPI) data continues to demonstrate the pressures manufacturers are under from input costs, with a rise of 36.3% over the last 12 months. Even if this was lower than the previous month’s 37.2%, it still remains horribly elevated.

Surveys: the Sentix investor confidence survey showed sharp drops in sentiment, with a reading of -26.4 the lowest since May 2020 in the depths of the initial COVID-19 lockdowns, a fall of 10.8 points from the previous month’s -15.8. The focus of concerns is on the impact of looming gas shortages on industry, especially in Germany, as the continent struggles to reorient its economy away from dependence on supplies from Russia. There is increasing talk that Russia may cut Europe off from gas completely later this year.

The S&P Services PMI surveys came out for both France and Germany. In both cases there was clear evidence of rapidly cooling economies. In France, the headline number came in at 53.9, down sharply from last month’s 58.3. In Germany the drop was less pronounced with a fall to 52.4 from 55.0 last time. In both cases we should stress that sentiment is above 50 and therefore net positive. The equivalent survey covering the construction industry fell further into net negative territory with a drop to 47.0 from 49.2.

Car sales: just as in the UK (see above), car sales in Europe have hit a big air pocket. Numbers published for Germany showed a drop of 18.1% in registrations compared with a year ago, down from a fall of 10.6% last time. In France the direction of travel was the same, with registrations falling 14.2% over the last 12 months, compared with a fall of 10.1% in May.

China/India/Japan/Asia

Evidence of COVID-19 lockdowns easing in Chinese data, Japan holding up although the outlook remains nervous

China: after last week’s better unofficial Caixin manufacturing surveys, this week the services versions showed the same picture, with a rapid boost to confidence as draconian COVID-19 lockdowns are eased. The headline services survey came in at 54.5 from last month’s heavily depressed reading of 41.4, which meant the composite blend of manufacturing and services also moved into positive territory at 55.3 from 44.2 last time.

Elsewhere in data releases, inflation moved up to 2.5% from 2.1% – far lower than in developed Western economies; and again in stark contrast to European data, year-on-year vehicle sales bounced back to +20.9% from last month’s lockdown-impacted 12-month fall of 12.6%.

Japan: survey data in Japan showed some evidence of resilience. The Jibun Services PMI came in at 54.0, up from 52.6 previously, with the composite measure coming in at 53.0, up from 52.3. Meanwhile the Economic Watchers sentiment survey showed current conditions holding up well, with only a slight decline to 52.9. There was a marked drop in the outlook component, however, with a fall to 47.6 from the previous reading of 52.5. This reflects concerns on the direction of global economies, and was struck before the shocking news of the assassination whilst out campaigning of highly respected former prime minister Abe Shinzo.

Oil/Commodities/Emerging Markets

More signs of commodity price pressures abating?

Over the last month a number of commodities have given up some of their huge gains from the previous 12 months. This volatility continued this week with contrasting fortunes for a number of the key individual commodities.

Oil plunged at the start of the week, with Brent falling from around $108/barrel to below $100 at one point, before rallying into the end of the week and ending at around $105. The US WTI measure showed a similar trajectory. Since the initial surge after the Russians launched their war of aggression in Ukraine, oil has traded in a range of approximately $100-$125, and is now driven more in the short term by fears over demand being curtailed by recession than supply being constrained by the war.

Copper, which is now down around 30% from its peak, suffered a similar whipsaw over the week, dropping almost 10% at one point before recovering to close the period only 3% down at $7,805/tonne. Conversely iron ore, which has collapsed the week before, stabilised and eked out a small gain over the week.

Wheat, which had again suffered big falls earlier after previously soaring as the Russians invaded (Ukraine indicated it would manage to export more grain than anticipated, despite the war), also managed to recover after steep falls early in the week. Perhaps there are some green shoots for hopes that the rise in food prices may not last forever.

Finally, gold gave up ground in the slightly better environment for risk, dropping almost 4% to $1,742/oz.