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20 June 2022
- The last week was mainly in the name of central banks. On Wednesday, the US Federal Reserve decided on the monetary policy settings. The markets had long expected a 0.5% rate hike, but speculation about a possible 0.75% hike began to emerge early in the week, which is what then finally happened on Wednesday. The Fed thus proceeded with the most aggressive rate hike since 1994, raising the key rate to a target range of 1.50% to 1.75%. Despite this surprising increase, however, stocks rallied immediately after the rate hike as Fed Chairman Jerome Powell indicated that moves of 75bps would not be standard in the future, and at the same time, he insisted that “there’s no sign of a broader slowdown that I can see in the economy.”
- Also, on Wednesday, the European Central Bank’s Governing Council held an unscheduled meeting due to concerns from some indebted states about the rise in borrowing costs and the threat of another debt crisis. The ECB plans to take action to stem the widening yield spreads between member states’ sovereign bonds. Friday’s inflation figures have again increased speculation about the need for rate hikes. The head of the Netherlands’ Central Bank Klaas Knot opined on Friday that if inflation worsens, the ECB may proceed with several rate hikes of up to 50bps.
- On Thursday, the Swiss central bank surprised markets with its sharp rate hike from -0.75% to -0.25%. Although the rate hike makes sense given the rise in inflation in the country, markets were not expecting such a drastic move and expected a rate hike in September at the earliest. However, SNB Chairman Thomas Jordan opined that inflation would be much higher without Thursday’s rate hike forecast.
- The Bank of England raised its primary rate by 25bps to 1.25% on Tuesday, a fifth consecutive rate hike and pushing borrowing costs to the highest in 13 years as it struggles to fight the highest inflation since 1982. Three policymakers voted for a more considerable 50bps increase. In addition, the BoE revised its inflation outlook higher, projecting that the year-over-year change in consumer prices would be slightly above 11% in October.
- On Friday’s policy meeting, the Bank of Japan kept overnight interest rates at minus 0.1% and said it would conduct daily purchases of 10-year JGBs at a yield of 0.25%. The bank also pledged to continue its QE to maintain its price stability target at 2%, keeping its monetary policy at odds with other central banks. While short-term inflation expectations have risen and a sharp depreciation of the yen may negatively affect the economy, according to BoJ Governor Haruhiko Kuroda, the BoJ’s goal is only price stability.
Indices
Stocks in the US have had their third week of decline, with the S&P 500 index even posting its most significant weekly drop since March 2020 and entering a bear market. This can be blamed on worse numbers regarding retail sales or the housing market, but the biggest impact has been speculation of a Fed rate hike of up to 75bps. Monday also marked the first time since 1996 that all the titles in the S&P 500 were in the red at once.
Stocks in Europe held their losses in check until Wednesday and even gained after the Fed and ECB emergency meeting, but Thursday’s surprise rate hike by the Swiss central bank sent them tumbling. The pan-European STOXX Europe 600 Index ended the week 4.60% lower, Germany’s DAX Index dropped 4.62%, France’s CAC 40 Index declined 4.92%, and the UK’s FTSE 100 Index pulled back 4.12%.
US30 -4.79% |
US100 -4.79% |
US500 -5.79% |
GER40 -4.62% |
Commodities
Oil prices fell to a four-week low on concerns about central bank interest rate hikes and the threat of an economic slowdown that would lead to lower energy demand. Prices were also under pressure from the US dollar, which is holding at long-term highs. Given the continued uncertainty in the markets and the threat of supply constraints due to the war in Ukraine, we can expect continued volatility in commodity markets.
NATGAS -21.54% |
Forex
The Japanese yen is falling further as the Bank of Japan continues its extremely loose monetary policy and plans to go ahead with unlimited bond purchases to defend its 0.25% yield ceiling. This has taken the Japanese currency to 24-year lows against the US dollar, and if the USDJPY breaks above the 135 level for an extended period of time, we could see a move to levels around 137 or 140.
The Swiss franc posted its strongest one-day gain since 2015 after the central bank surprisingly raised its interest rates for the first time since 2007 from the original -0.75% to -0.25%. The Swiss franc strengthened 1.4% against the dollar and jumped 1.8% against the euro.
EUR/USD -0.21% |
USD/JPY +0.38% |
GBP/USD -0.73% |
USD/CAD +1.92% |
Macro
Wednesday’s retail sales data again reinforced fears of a recession in the U.S., as May fell for the first time this year, down 0.3% (forecast +0.2%). High inflation, gasoline prices and borrowing costs hurt spending on non-essential goods when auto sales recorded the biggest decline (-4%), and sales fell at electronics & appliance stores (-1.3%). Sales excluding autos also surprised on the downside, however, rising only 0.5% versus consensus expectations of around 0.8%. Excluding gasoline, sales rose only 0.1%.
Thursday’s housing market data showed that the housing sector was already feeling the impact of Fed tightening and the surge in mortgage rates. Building permits fell 7% in May to their lowest level since last September, while housing starts sank 14.4%, the most significant drop since the onset of the pandemic. Weekly jobless claims were also higher than expected (229,000 versus roughly 210,000).
The economy of the United Kingdom unexpectedly contracted by 0.3% in April, following a 0.1% fall in March and was expected to grow modestly by 0.1%. The unemployment rate rose to 3.8% in the three months to April, the first increase since 2020.
In Europe, Tuesday’s data on economic sentiment in Germany did not surprise, with the ZEW Indicator dropping to -28. Economists are not as sceptical as in previous periods, but risks such as the implications of sanctions against Russia, an unclear metals situation in China and a gradual change in monetary policy remain.
What to watch out for this week
- Fed Chairman Jerome Powell will testify before Congress on Wednesday regarding the US central bank’s most significant interest rate hike since 1994. The Fed said on Friday that its commitment to fighting inflation is “unconditional”. Annual inflation in the US rose at the fastest pace since 1981 in May. Several Fed officials, including James Bullard, Thomas Barkin, Charles Evans and Patrick Harker, are due to make appearances during the week and will be a guide for investors trying to gauge the size of the expected rate hike at the Fed’s upcoming July meeting.
- In addition, updates on the state of the US housing market will be in focus. Tuesday’s data on existing home sales in May should point to a slowdown in growth as mortgage rates continue to rise. New home sales data will be released on Friday, and markets will be looking for signs of recovery after a 16.6% drop.
- Thursday will see the release of preliminary data on activity in the manufacturing and service sectors, as well as data on initial jobless claims, which last week pointed to some cooling in the labour market though conditions remain tight.
- ECB President Christine Lagarde will testify before the European Parliament in Brussels on Monday. The ECB is preparing a new programme of purchases to combat “fragmentation”, the widening gap between the borrowing costs of countries like Germany and other, more indebted countries on the eurozone periphery, such as Italy, Spain, and Greece.
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