Last week saw a numbers of events and challenges for investors to navigate, with some key central bank decisions and ongoing turmoil in the US regional banking system. Both the Federal Reserve (Fed) and the European Central Bank (ECB) raised interest rates as anticipated, but there is now a view the Fed will pause its cycle of rate hikes. If all that wasn’t enough to digest, there was a lot of micro and macro economic news, with corporate earnings coming thick and fast throughout the week and April US employment data out on Friday. On the week, the MSCI World Index declined 0.5%; the Stoxx Europe 600 Index fell 0.3%; the S&P 500 Index fell 0.8%; and MSCI Asia Pacific Index rose 1%.1
On Wednesday, the Fed unanimously agreed to raise rates by 25 basis points (bps), bringing the target range to 5.0%-5.25%. In the Federal Open Market Committee’s (FOMC’s) statement, there was a key change in the wording, notably the removal of forward guidance for future hikes. It removed “the Committee anticipates that some additional policy firming may be appropriate…” from the statement. In the press conference, Chair Jerome Powell reiterated the FOMC statement language, saying that the “extent” of more monetary policy tightening now depended on incoming information, a meeting-by-meeting decision.
The market is now pricing that this move is the last rate hike in the current hiking cycle, following 10 consecutive months of rate hikes. Indeed, the market is pricing 70 bps of cuts by year-end and the probability of a cut in July increased to 40.5% from 31.1% prior to the meeting.2 This is something Powell pushed back on in the press conference. He said that rate cuts would not be appropriate for the Fed’s current forecast of inflation coming down very slowly.
On the recent US regional banking turmoil, Powell seemed confident in suggesting that the deposit crisis was limited to the few small banks that have failed and that it was not seeing broader stress.
ECB: Slowing down, but not done yet
On Thursday, the ECB announced its interest-rate decision and President Christine Lagarde followed with a press conference. The ECB raised rates by 25 bps as expected, from 3.0% to 3.25%, with the Governing Council stating that future decisions will remain “data dependent” (the June meeting will benefit from the latest ECB macroeconomic projections). There was some relief on the announcement, as many were worried the central bank would raise by 50 bps. However, as is often the case, the focus really was on the language around the release, with commentators looking for any hints about future hikes and the size of them. Lagarde duly delivered, as she emphasized the plural in “decisions,” suggesting that two more (25 bp) hikes may be in the pipeline, taking us to a “terminal” (peak) rate of around 3.75%.
The ECB also announced the discontinuation of its Asset Purchase Programme (APP) reinvestments in July. This was something of a surprise, as many had expected this to be announced only at the next meeting in June. It’s worth noting that Pandemic Emergency Purchase Program (PEPP) reinvestments will continue in full.
In the end, the release was somewhat of a compromise, trying to keep both the doves (slowing the pace of rate hikes) and the hawks (hints of multiple rate hikes going forward) happy.
Most importantly, markets—especially the bond markets—seemed happy enough with the release and press conference, and quickly moved beyond the ECB to the economic fallout of the regional bank situation in the United States.
Week in Review
Although the Fed meeting was a key talking point for US equities, the ongoing turmoil surrounding the US regional banks remained a headwind and the S&P 500 Index ended the week slightly lower. The technology-heavy Nasdaq Index saw slight gains on the heels of better-than-expected earnings reports in the sector.
US regional banks were once again in focus. The week started with the news that JPMorgan acquired First Republic Bank, as US regulators sought to avoid a collapse of First Republic. The failure of First Republic is the second largest in US history (Washington Mutual in 2008 is the largest). First Republic had a market cap of US$25 billion in February and shares traded as high as US$144 earlier in the year.3
Whilst some hoped that rescue would have calmed the market, attention quickly turned to other banks. Trading in the sector was extremely volatile throughout the week, with the KRE Regional Banks Index declining 10%.4
The risk of the US federal government hitting its debt ceiling looms large. Over the weekend, US Treasury Secretary Janet Yellen warned there are “no good options” for solving the debt limit stalemate, other than Congress lifting the cap. Many Republicans, including Senator Mitch McConnell, have said they won’t support raising the ceiling without spending cuts.
In terms of macro data, the April US employment report showed headline growth of 253,000 nonfarm payroll jobs, ahead of expectations and stronger month-over-month. However, there were a combined 149,000 in downward revisions to March and February. The unemployment rate moved down to 3.4% (the lowest since May 1969).
European market performance was muted last week, with the Stoxx Europe 600 Index down 0.3% as fears over the US banking system created a “risk-off” mood amongst investors. As discussed, the ECB was a key talking point, too.
Looking at sector performance, defensive health care stocks outperformed, along with technology stocks. Meanwhile, media stocks declined, likely on fears around the impact of artificial intelligence (AI) on some businesses in the space.
In terms of macro news, the Eurozone Consumer Price Index (CPI) for April accelerated to 7.0%, far above the ECB’s 2% target.
Despite a holiday-interrupted week—China’s market was closed the first three days and Japan the last three—Asian stocks had a better week overall.
Stocks in Hong Kong rebounded after the Labour Day holiday when the Fed signalled an imminent end to rate hikes. Tech heavyweights were in focus.
China’s mainland market also closed higher post the Labour Day holiday. On the macro front, Caixin PMI came in at 49.5, which was below market expectations and back to contractionary territory. The data showed slowing factory activity which raises concerns that China’s post-COVID recovery may be losing momentum. Another key barometer for China’s recovery is domestic tourism over the holiday season. There were approximately 274 million domestic trips taken from Saturday to Wednesday, marking a roughly 71% increase on the previous year. Spending activity over the holidays surged 129% versus the previous year.5
Japanese equities rose 1.04% over the first two days of last week, remaining closed for the rest of the week due to the Golden Week holidays. Markets rallied on Monday, largely on a selloff in the Japanese yen, helping the exporters. This followed the Bank of Japan’s decision at its last meeting to maintain its ultra-easy monetary policy stance for the time being.
There is plenty to focus on this week, with some key macro data coming out (US CPI), the US debt ceiling in focus (Biden-Congress talks), and the Bank of England decision (Thursday). In addition, the concerns around the US regional banks will no doubt remain a driver for markets.
Monday 8 May
- UK bank holiday
- German Industrial Production
- ECB Speak: ECB Chief Economist Philip Lane speaks at Forum New Economy conference in Berlin.
Tuesday 9 May
- ECB Speak: Olli Rehn
- US debt ceiling: US President Joe Biden scheduled to meet with congressional leaders on the debt limit. Yellen has said the US government risked default as soon as June 1.
- Fed Speak: New York Fed President John Williams speaks to Economic Club of New York
Wednesday 10 May
- German CPI
- US CPI
Thursday 11 May
- China CPI
- BoE policy decision: The BoE is expected to lift interest rates to 4.5% from 4.25%.
- US Producer Price Index
Friday 12 May
- UK first-quarter gross domestic product
- Fed Speak: Philip Jefferson and St. Louis Fed President James Bullard
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1. Indices are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future results.
2. Source: Bloomberg, federal funds futures. As of 8 May 2023. There is no assurance that any estimate, forecast or projection will be realized.
3. Source: Financial Times, “JPMorgan to acquire First Republic’s deposits as US regulators step in.” 1 May 2023.
4. Source: Bloomberg. 8 May 2023. Indices are unmanaged and one cannot directly invest in them. They do not include fees, expenses or sales charges. Past performance is not an indicator or a guarantee of future results.
5. Source: Reuters. “China’s holiday tourism rebound to pre-COVID levels boosts outlook”, 3 May 2023.