Last Week in Review – September 30, 2022

Last Week In Review

Last week was another choppy week as turmoil in UK financial markets and signs that the Federal Reserve still has some way to go in its efforts to temper inflation sent stocks to their third consecutive weekly decline. At the same time, the yield on the benchmark 10-year US Treasury note briefly breached 4% for the first time since 2008. The S&P 500 Index broke below its mid-June lows and fell back to November 2020 levels. The week closed out a third consecutive quarter of declines for the index for the first time since 2009.

The equity market’s most significant moves came Wednesday, following a surprise decision by the Bank of England (BoE) to purchase long-dated UK government bonds. The BoE’s move caused extreme volatility before trading began on Wall Street, but the result was an easing of recent upward pressure on interest rates and the US dollar and a rally for stocks. The market also received support from news of favorable results in a large-scale trial of Biogen’s Alzheimer’s treatment, which sent the drugmaker’s shares surging nearly 40%.

US – Markets & Economy

However, markets reversed their gains on Thursday, with the selling seemingly caused by data showing continued resilience in the economy and inflationary pressures despite tightening monetary policy. Weekly jobless claims fell to 193,000, well below consensus expectations and their lowest level since late April.

Meanwhile, the core (less food and energy) personal consumption expenditures (PCE) price index, widely recognized as the Fed’s preferred inflation gauge, rose at an annualized pace of 4.7% in the second quarter—well above expectations of around 4.4% as well as the Fed’s long-term 2.0% inflation target. August’s monthly core PCE reading, released Friday, also surprised the upside, rising 4.9% yearly from 4.7% in July. However, long-term inflation expectations appeared to remain anchored, with consumers polled by the University of Michigan expecting inflation to fall to 2.7% over the next five years, the lowest reading in over a year.

The housing sector feels the immediate impact of the Fed’s rate hikes through rising mortgage rates—which breached an average of 7%—but the evidence was mixed. New home sales surprised investors by growing nearly 29% in August to hit a five-month high. Yet pending sales of new and existing homes—where contracts have been signed but not closed—fell slightly. The Case-Shiller Home Price Index fell 0.24% in July, its first monthly decline since early 2012. On a year-over-year basis, prices decelerated from June to July at the fastest pace in the index’s history.

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

Prices of US Treasuries rallied after the BoE intervened to stabilize the UK government bond market, leaving the 10-year US Treasury note yield higher for the week. Selling pressures in the municipal bond market persisted through much of the week, leading to firmly negative returns at the broad market level and underperformance versus US Treasuries. While outflows from municipal bond funds industrywide remained a strong headwind, traders I spoke to noted that buyers began to emerge late in the week after municipals repriced to more attractive yields and Treasury market volatility eased.

The relatively weak macroeconomic backdrop created a challenging environment for investment-grade (IG) corporate bonds. Less liquid bonds and those issued by “Yankee” banks (those operating in the US but registered elsewhere) underperformed more liquid areas of the market. In this less supportive environment, primary issuance fell short of weekly expectations.

The high-yield bond market saw higher-than-average volumes during the week. Despite negative flows from the asset class industrywide, market liquidity was somewhat healthy due to coupon payments and tenders. No new deals were announced, but our traders noted that the lack of issuance created a demand for higher-quality names and some distressed bonds at lower prices in the secondary market.

Bank loans traded lower as market participants continued to assess the inflation and recession outlook. Hawkish messaging from multiple Fed speakers appeared to contribute to the weakness. Traders noted that the primary loan market is expected to be limited over the near term as issuers will likely wait for a more suitable time to announce new deals.

US Treasury Markets – Current Rate and Bi-Monthly Change

Interesting News Overseas

Shares in Europe fell amid disappointing corporate earnings and fears of recession. The pan-European STOXX Europe 600 Index ended the week 0.65% lower in local currency terms. France’s CAC 40 Index slipped 0.36%, Germany’s DAX Index slid 1.38%, and Italy’s FTSE MIB Index dropped 1.98%. The UK’s FTSE 100 Index lost 1.78%.

UK government bond (gilt) yields ended higher after experiencing historical swings in the wake of the previous Friday’s announcement of a new UK fiscal plan proposing significant tax cuts, energy subsidies, and sizable borrowing. Yields jumped at the start of the week amid worries about a severe deterioration in the public finances. They then eased after the BoE said it would make temporary purchases of long-dated bonds “on whatever scale is necessary” to “restore orderly market conditions.”

The International Monetary Fund called on the UK to “reevaluate” the plan to ensure fiscal and monetary policy aren’t working at cross purposes. US Treasury Secretary Janet Yellen said the US was also “closely monitoring developments.” Meanwhile, core Eurozone bond yields fluctuated, ending broadly higher, mostly tracking moves in UK gilts. Higher-than-expected inflation in Germany also added upward pressure on yields later in the week. Peripheral eurozone bond yields broadly followed core markets.

European Central Bank (ECB) President Christine Lagarde said at a hearing of the European Parliament that the economic outlook “is darkening” and that she expects business activity to “slow substantially” in the coming months as high energy and food prices curb spending power. She said output in the fourth quarter of 2022 and the first three months of 2023 would likely be “negative.” The next day at an event in Frankfurt, she said the ECB would “continue hiking interest rates in the next several meetings” to return inflation to 2% in the medium term. Meanwhile, Slovak central bank governor Peter Kazimir, Finland’s Olli Rehn, Austria’s Robert Holzmann, Lithuania’s Gediminas Simkus, and Estonia’s Madis Muller, among others, contemplated another 0.75 percentage-point increase in borrowing costs in October. The ECB’s primary refinancing rate is currently 1.25%.

According to an official first estimate, inflation in the eurozone accelerated to a record 10.1% in September from 9.1% the previous month. The figure exceeded a consensus forecast of 9.7% and reinforced market expectations for another significant increase in interest rates in October.

The strengthening of the US dollar against Asian currencies continued to weigh on market sentiment. The release of minutes from the Bank of Japan’s (BoJ) monetary policy meeting on Wednesday showed policymakers voted 8–1 to maintain a negative benchmark interest rate of -0.1%. The BoJ also confirmed that it would continue to purchase a necessary amount of Japanese government bonds (JGBs) without setting an upper limit, such that 10-year JGB yields will remain at around zero percent. This yield collar saw the yen weaken further mid-week, trading in the high 144 range against the US dollar.

However, some ground was recovered later in the week as the US dollar dipped following news of the bond market intervention by the Bank of England. Separately, Finance Minister Shunichi Suzuki said at a meeting of the Asian Development Bank that the government would “take necessary action” to respond to undesirable, rapid speculative currency movements. By the week’s end, the yen was trading in the mid-144 range against the dollar.

Lastly, after a week of little movement, Japan’s 10-year benchmark yield fell on Friday, indicating that the Bank of Japan will increase bond buying from next quarter to curb elevated yields. The 10-year JGB yield ended the week at 0.247%.

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