Global Economy & Markets, Weekly Roundup 13/05/24

Risk appetite has revived, leading key equity markets higher

Global equity markets have recouped circa 95% of their April losses (-5%) as monetary policy is heading towards a less restrictive stance. The Riksbank cut interest rates for the first time since 2016 in the past week and the ECB has set the stage for a June interest rate cut.

Moreover, corporate results for Q1:2024 were better-than-expected, with economic data surprising also on the upside (euro area and UK real GDP growth). As a result, the MSCI ACWI has increased by +3.4% month-to-date, with gains across the board excluding Japan. The S&P500 rose by +3.7%, with 10 out of 11 industry groups higher and the Energy sector remaining broadly flat.

In addition, easing concerns that the Federal Reserve could be off track for rate cuts later in the year following FOMC May 1st meeting (see below), have led US Treasury bond yields lower by -18 bps to 4.50% month-to-date. Core risk-free rates also declined in the UK by -17 bps to 4.17%, as well as in Germany by -7 bps to 2.52%. At the same time, USD investment grade corporate bond spreads have tightened close to all-time low levels of circa 90 basis points.  

The Fed maintained the FFR at a range of 5.25% - 5.5%, as expected. Chair Powell reiterated that greater confidence that inflation is moving sustainably towards the target of 2% is a necessary prerequisite for rate cuts to commence. So far in 2024, the deceleration process has stalled. April’s CPI, due on May 15th, will be closely monitored, with consensus analysts expecting the core CPI to increase by +0.3% mom (+3.6% yoy) versus +0.4% mom on average in the first three months of 2024.

Having said that, Powell all but ruled out the prospect of rate increases, instead highlighting as the most likely scenario a delay in rate cuts. Some weaker-than-expected elements in the latest US labor market data, as well as softer-than-anticipated April PMIs (Manufacturing: -1.1 pt to 49.2 versus consensus for 50.0 | Services: -2.0 pts to 49.4 versus consensus for 52.0), reinvigorated market participants’ confidence that rate cuts, even though later than sooner, remain on track. 

The Fed also followed through with its plan to slow down the balance sheet contraction. US Treasury securities and agency mortgage-backed securities portfolios will continue to decline, effectively, at a pace of $40 billion per month instead of $95 billion per month previously. Treasuries and agency MBSs holdings have been reduced by -$1.25 trillion & -$0.36 trillion since May 2022, respectively, albeit the B/S remains elevated compared with pre-pandemic 2019 levels (26% of US GDP from 19%).
The Fed highlighted that the decision to slow QT should not be interpreted as an intention for the balance sheet to ultimately shrink by less than previously planned (“ample reserves” remains the goal), but rather as a means to approach its ultimate level more gradually, in order to ensure a smooth transition, reducing the possibility that financial markets experience stress events.
The Bank of England (BoE) stood pat, as expected, with the Bank Rate at 5.25%. The view that a reduction is drawing closer was maintained, given, inter alia, that two out of nine members dissented in favor of a cut (instead of one member in the previous meeting). More importantly, BoE revised down its medium term projection for CPI inflation, foreseeing it at +1.9% yoy on average in Q2:2026 (roughly in line with the 2% target) instead of +2.2% yoy in the respective projections conducted in February.
Global Economy & Markets, Weekly Roundup 13/05/24