Last Week in Review – August 12, 2022

Last Week In Review

Last week stocks rallied after data showed signs that inflation, while still elevated on an annualized basis, had started to slow, supporting the view that the rise in consumer prices may have peaked. Federal Reserve officials reiterated that the central bank still had work to tame inflation. However, the market still appeared to lower its expectations for a 75-basis-point (0.75 of a percentage point) rate hike in September. The large-cap S&P 500 Index advanced but did not gain as much ground as the S&P MidCap 400 Index and the small-cap Russell 2000 Index. All the sectors in the S&P 500 rose, led by energy stocks. Consumer staples lagged.

Equity traders observed an increase in steepening bets among investors following lower-than-projected inflation data on Wednesday, aiding a pullback in front-end rates and a modest rise in longer-term yields. (Bond prices and yields move in opposite directions.) The narrative that inflation may have peaked appeared to fuel a risk-on rally in investment-grade corporate bonds. Here, credit spreads tightened, and higher-beta sectors outperformed. The high yield market also advanced. The asset class has recently seen its most significant two-week inflows since June 2020.

US – Markets & Economy

All eyes were on the July inflation print, given its possible implications for monetary policy, the economy, and markets. Headline, consumer price inflation, came in flat month over month, down from the 1.3% sequential uptick recorded in June and below the consensus estimate. On an annualized basis, headline inflation was 8.5% (not 0.00%, as the White House claimed). Food prices increased 1.1% sequentially, an acceleration of 0.1 percentage point. However, energy prices dropped 4.6% sequentially, while gasoline prices declined 7.7%. Core inflation, which excludes volatile food and energy costs, was also below estimates and unchanged from the prior month. Meanwhile, the year-over-year increase in the producer price index fell 50 basis points sequentially to 9.8% in July, registering the first pullback in the headline number since April 2020.

Comments from Fed officials reiterated that the central bank would continue to seek to tame inflation by raising interest rates. For example, Mary Daly, president of the Federal Reserve Bank of San Francisco, told Bloomberg Television that the latest inflation data, while an improvement, are still high and should not be construed as “victory.” Daly again called for a 50-basis-point rate increase in September but indicated that incoming data should guide the Fed’s decision-making. Meanwhile, at an event hosted by Drake University in Iowa, Chicago Fed President Charles Evans remarked that the central bank may need to raise rates to as high as 4% by the end of 2023.

US – Equity Market Performance

SOURCE: BLOOMBERG. THIS CHART IS FOR ILLUSTRATIVE PURPOSES ONLY AND DOES NOT REPRESENT THE PERFORMANCE OF ANY SPECIFIC SECURITY. PAST PERFORMANCE CANNOT GUARANTEE FUTURE RESULTS.

US Yields & Bonds

Since the beginning of the third quarter (June 30), equity markets have had a stellar move higher, with the S&P up over 12% (but still in correction territory for the year). Similarly, the technology-heavy Nasdaq is up about 17%, cutting losses in half. Last week’s inflation readings have helped the positive sentiment helping to add to the “risk-on” momentum seen in the previous six weeks.

However, I do not expect the markets to continue this rally in a straight line through the end of the year. Ongoing volatility is likely, driven in large part by the constant rate hikes by the Fed. Secondly, the Fed has done little to lower its balance sheet until this point and will likely start accelerating its reduction program. This would probably add pressure to bond yields as they remove excess liquidity from the system. Finally, September and October have historically been very volatile months for the markets. As the economic and earnings estimates soften, this could exacerbate market volatility.

US Treasury Markets – Current Rate and Bi-Monthly Change

Interesting News Overseas

European shares rose as fears of more aggressive interest rate hikes eased. The pan-European STOXX Europe 600 Index ended the week 1.18% higher in local currency terms. Major indexes also advanced: Germany’s DAX Index gained 1.63%, France’s CAC 40 Index climbed 1.26%, and Italy’s FTSE MIB Index tacked on 1.70%. The UK’s FTSE 100 Index increased 0.82%.

Core eurozone government bond yields, ended higher. The UK and peripheral eurozone government bond yields broadly tracked core markets.

The UK economy contracted less than forecast in June when public holidays for Queen Elizabeth II’s platinum jubilee celebrations weighed on output. Gross domestic product (GDP) shrank 0.6% compared with the previous month; the consensus forecast had called for a 1.3% contraction. In the second quarter, UK GDP fell 0.1% sequentially. The Bank of England (BoE) expects a recession to begin at the end of the year.

Bank of England Deputy Governor Dave Ramsden said in an interview with Reuters that interest rates would probably have to rise again to contain spreading inflation. “For me personally, I do think it’s more likely than not that we will have to raise [the] Bank Rate further. But I haven’t reached a firm decision on that,” he said. “I’m going to look at the indicators, look at the evidence as we approach each upcoming meeting.” He also said that the bank would sell its stock of UK government bonds even if a slowdown forces it to cut rates. Meanwhile, Chief Economist Huw Pill said at an online event that Britain will only feel the full impact of higher interest rates in late 2023 and that there is unlikely to be any return of quantitative easing for at least a few years.

Japan’s stock markets rose over the week, with the Nikkei 225 Index and the broader TOPIX Index gaining around 1.3%. Investors’ risk appetite was supported by weaker-than-anticipated U.S. inflation data, which, to a degree, dampened expectations that the U.S. Federal Reserve would continue raising interest rates aggressively. The reshuffling of Japan’s Cabinet signaled policy continuity, also boosting sentiment. Against this backdrop, the 10-year Japanese government bond yield rose to 0.19%, from 0.16% at the end of the previous week, while the yen advanced against the U.S. dollar to around JPY 133.4, from JPY 135.0 the prior week.

Lastly, China’s stock markets ended the week on a mixed note as a flare-up in coronavirus cases offset news of a record trade surplus last month and a central bank report signaling support for growth. The broad, capitalization-weighted Shanghai Composite Index added 1.5%, and the blue-chip CSI 300 Index, which tracks the largest listed companies in Shanghai and Shenzhen, inched up 0.8%, Reuters reported. The spike in coronavirus infections and a continued housing market slowdown are considered among the largest risks to China’s economy in the near term. Coronavirus cases in China climbed to a three-month high, roughly half recorded in the southern coastal island of Hainan, which was widely locked down last week.

This message is provided for informational purposes and should not be construed as a solicitation or offer to buy or sell securities or other financial instruments. Past performance is not a guarantee of future results. Perigon Wealth Management is a registered investment adviser. More information about the firm can be found in its Form ADV Part 2, which is available upon request by calling 415-430-4140 or sending an email request to Compliance@PerigonWealth.com