Interest rate uncertainty has gripped the markets, after US jobs and inflation data beat expectations. A sharp rise in US Treasury bond yields has lowered the attractions of more highly valued equities.
Despite forecasts of recession, GDP growth in the US has so far proved resilient and US inflation has beaten forecasts. Conversely, in China the recovery has yet to fire up and consumer price growth is subdued.
Clouds of uncertainty still hang over financial markets, whether about inflation, recession or the peak in the interest rate cycle. Throw in the brinkmanship surrounding the US debt ceiling and it’s no wonder markets have been range bound in recent months.
Equity markets have spent the last month moving in a relatively narrow range. There seem to be multiple headwinds. Even before the regional banking crisis in the US, higher interest rates have curbed the demand for credit, while core inflation remains stubbornly high.
After the turbulent days of early March, markets now seem to view the banking crisis as a small number of idiosyncratic events. And yet a broader credit squeeze remains a possibility, which could rein in economic growth.
February proved disappointing for markets, as stronger economic data crushed expectations of falling inflation and an early pivot in interest rates. Central bank rhetoric has become more hawkish and higher terminal interest rates are now forecast.
Financial markets had a tough time in 2022, leaving investors with ‘nowhere to hide’. Central banks were blamed for their aggressive game of interest rate catch up, as inflation soared to levels not seen for decades.
This has been called the ‘make or break decade’ for action on climate change - perhaps the most urgent challenge of our time. COP27, the UN climate conference, has now drawn to a close. But the burning question remains. Will the commitments made by major economies prove to be sufficient?
As this extraordinary year draws to a close, records for extreme performance continue to be smashed by equity, bond and currency markets. It’s all down to the central banks and their response to runaway inflation.
With inflation still at the top of the agenda, financial markets remain at the mercy of hawkish rhetoric on monetary policy. Central banks, including the US Federal Reserve and the European Central Bank, have promised to act decisively against inflation, even at the expense of economic growth. And both equity and fixed interest markets have responded negatively.
Economic forecasts predict inflation peaking over the summer months in major economies, before falling back towards the end of the year. While food and energy prices continue to soar and headline inflation levels ratchet ever higher, it can be hard to see what would cause inflation and indeed interest rates to pivot downwards.
Uncertainties surround financial markets at every turn. Whether from the Ukraine crisis, a slowdown in China or more aggressive central bank policy. And as inflation soars and growth slows, the risk of contagion is rising.
As the year began, the world’s economies had a plan: normalise policy, head off inflation and allow growth to continue to recover. Then came the dual shock of war in Ukraine and soaring food and energy prices.
Safe havens saw sustained buying interest, as commodity prices were pushed higher by Russia’s action in Ukraine. The ECB meeting this week could change policy expectations, in the light of events on Europe’s eastern borders.
The Russian invasion of Ukraine caused volatility to spike to two year highs in risk markets, while safe haven assets such as gold and US Treasury bonds were in demand. This week the impact of global sanctions on Russia will be closely monitored, while on the macro front we expect a further strong advance in US non-farm payroll data.