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Global Markets Weekly Update: February 11, 2022
U.S.
Small-caps outperform as investors weigh earnings against interest rate fears
After another volatile week, the large-cap indexes ended the week lower, while the S&P MidCap 400 and small-cap Russell 2000 indexes recorded modest gains. The technology-heavy Nasdaq Composite fared worst and ended the week down roughly 15% from its recent peak, still in correction territory. T. Rowe Price traders noted that the tug of war between healthy earnings growth and fears over monetary tightening continued to dominate sentiment. Warnings from U.S. officials that a Russian invasion of Ukraine might be imminent may have also contributed to a late-week sell-off.
Declines in mega-cap technology stocks—including Facebook parent Meta Platforms, Microsoft, and Google parent Alphabet—weighed on the broader indexes on Monday, but the so-called reopening trade helped stocks regain their footing at midweek. Shares in restaurants, hotels, casinos, air and cruise lines, and online travel agency stocks all rallied.
Inflation hits highest level in four decades
Highly anticipated inflation data on Thursday unwound the gains, however. The Labor Department reported that the headline consumer price index (CPI) advanced 7.5% over the year ended January, more than consensus expectations and its highest annual gain since February 1982. Core prices, which exclude food and energy purchases, rose 6.0%, the most since August 1982.
Inflation worries were reflected in the University of Michigan’s preliminary gauge of consumer sentiment in February, released Friday morning. At 61.7, the index reading came in well below expectations of roughly 67 and hit its lowest level since October 2011. The survey’s chief researcher termed the drop “stunning” and pointed out that “nearly half of all consumers [are] expecting declines in their inflation-adjusted incomes during the year ahead.” According to FactSet, roughly three out of four S&P 500 companies that have reported earnings have referred to inflation in their earnings calls, but net margin estimates for the current quarter have fallen only slightly, suggesting that many businesses are successfully passing on higher input costs to customers.
The University of Michigan data seemed to indicate that consumers were not especially comforted by improving COVID-19 trends and the removal of some restrictions. Several states, including California and New York, announced the rollback of mask mandates and vaccine requirements during the week. Amazon.com, the country’s largest private employer alongside Wal-Mart, also announced that workers would no longer have to wear masks in its warehouses if they were vaccinated.
Investors price in half-point rate increase in March
The upside CPI surprise, combined with hawkish comments from St. Louis Federal Reserve Bank President James Bullard, sent short-term rates racing higher on Thursday, resulting in a flattening of the yield curve. The two-year U.S. Treasury note yield reached its highest level since January 2020 as investors priced in expectations for an accelerated rate hike schedule by the Fed—including the probability for a 50-basis-point rate increase at the central bank’s March policy meeting. Meanwhile, the benchmark 10-year U.S. Treasury note yield surpassed 2.00% for the first time since the summer of 2019. (Bond prices and yields move in opposite directions.)
According to our traders, subdued forward supply expectations and an uptick in overnight demand from Asia supported investment-grade corporate bonds early in the week. However, the January CPI print, coupled with Bullard’s comments, contributed to risk-off sentiment and weighed on investment-grade corporate bonds later in the week.
Similarly, high yield bonds tracked equities higher in the first half of the week as buyers were more active, partly due to more attractive valuations following the recent interest rate-driven weakness. However, the asset class retraced the gains after Thursday’s higher-than-expected CPI report and Bullard’s hawkish comments. Our traders noted that the primary market was fairly quiet with only a few new deals announced.
The loan market was flat most of the week. The asset class did not participate in the stronger performance seen in broader risk markets as loan investors awaited Thursday’s CPI print to get a fresh gauge on the inflation narrative and the aggressiveness of the Fed’s trajectory. Nevertheless, collateralized loan obligation demand and continued retail inflows were supportive for loans.
U.S. Stocks1
Index |
Friday’s Close |
Week’s Change |
% Change YTD |
DJIA |
34,738.06 |
-351.68 |
-4.40% |
S&P 500 |
4,418.64 |
-81.89 |
-7.29% |
Nasdaq Composite |
13,791.15 |
-306.86 |
-11.85% |
S&P MidCap 400 |
2,647.46 |
24.28 |
-6.85% |
Russell 2000 |
2,030.15 |
27.79 |
-9.58% |
This chart is for illustrative purposes only and does not represent the performance of any specific security. Past performance cannot guarantee future results.
Source of data: Reuters, obtained through Yahoo! Finance and Bloomberg. Closing data as of 4 p.m. ET. The Dow Jones Industrial Average, the Standard & Poor’s 500 Stock Index of blue chip stocks, the Standard & Poor’s MidCap 400 Index, and the Russell 2000 Index are unmanaged indexes representing various segments of the U.S. equity markets by market capitalization. The Nasdaq Composite is an unmanaged index representing the companies traded on the Nasdaq stock exchange and the National Market System. Frank Russell Company (Russell) is the source and owner of the Russell index data contained or reflected in these materials and all trademarks and copyrights related thereto. Russell® is a registered trademark of Russell. Russell is not responsible for the formatting or configuration of these materials or for any inaccuracy in T. Rowe Price Associates’ presentation thereof.
Europe
Shares in Europe rallied, buoyed by strong corporate earnings. In local currency terms, the pan-European STOXX Europe 600 Index ended 1.61% higher. Value-oriented stocks and those in cyclical industries fared well, reflecting inflationary pressures and the possible implications for key central banks’ monetary policies. Germany’s Xetra DAX Index advanced 2.16%, Italy’s FTSE MIB Index gained 1.36%, and France’s CAC 40 Index tacked on 0.87%. The UK’s FTSE 100 Index climbed 1.92%, helped by better-than-expected economic data.
Core and peripheral eurozone government bond yields rose on the higher-than-expected inflation forecast issued by the European Commission (EC) and an upside surprise in U.S. inflation. UK gilt yields increased after data indicated that the economy contracted less than expected in December and grew 1% in the fourth quarter. This resilience appeared to contribute to market expectations for the Bank of England to increase interest rates again.
Split over European Central Bank policy
The heads of the Dutch and German central banks, both of whom are members of the European Central Bank’s (ECB’s) governing council, separately commented that the ECB should wind down its asset-purchase programs to set the stage for potentially raising interest rates before year-end.
However, ECB President Christine Lagarde, the head of France’s central bank, and ECB Chief Economist Philip Lane pushed back against potentially tightening policy prematurely, citing the view that record-high inflation could subside and approach the central bank’s 2% target in the medium term. Lagarde seemed to adopt a more cautious stance, saying there was no need for “measurable tightening” of policy. She added that the ECB saw “no need to rush to any premature conclusion at this point in time—the outlook is way too uncertain.” She then stressed in an interview at the end of the week that an increase in interest rates would not bring down inflation and could undermine the economic recovery.
Wieladek: One rate hike in 2022 now a possibility
T. Rowe Price International Economist Tomasz Wieladek believes that, in combination, the market’s consensus forecasts for an end to the ECB’s quantitative easing program this year and a 50-basis point rise in the deposit rate could be too aggressive. Like the market, he expects the ECB to taper asset purchases to EUR 30 billion per calendar month in the second quarter and to end the program in the third quarter. However, he thinks there is likely to be only one rate hike of 25 basis points, probably in the fourth quarter, given that labor market-driven inflation is still not at a level consistent with the ECB’s target.
EC forecasts slower growth but higher inflation
The EC lowered its 2022 outlook for economic growth in the European Union (EU) and eurozone to 4.0% from its previous forecast, issued last fall, for a 4.3% expansion. The winter update to the EC’s forecasts also said inflation was expected to accelerate to 3.9% in the EU and 3.5% in the eurozone—faster than previously expected—before easing to less than 2.0% in 2023.
Japan
In a holiday-shortened week, Japan’s stock markets generated a positive return, with the Nikkei 225 Index rising 0.93% and the broader TOPIX Index up 1.66%, supported by solid corporate earnings. The yen weakened to around JPY 116.02 against the U.S. dollar, from the previous week’s JPY 115.22, after a higher-than-expected inflation reading in the U.S. sent the dollar higher and amid expectations of aggressive monetary policy tightening by the Federal Reserve. With the 10-year Japanese government bond (JGB) yield finishing the week at 0.22% (compared with 0.20% at the end of the prior week), the Bank of Japan (BoJ) acted to curb rising yields and to maintain favorable financial conditions.
Bank of Japan acts to curb rising yields while continuing to assert its dovish stance
A rise in the benchmark JGB yield to its highest level since 2016, due primarily to global inflation risks and higher U.S. Treasury yields, prompted the BoJ to announce that it would buy an unlimited amount of 10-year JGBs at a yield that corresponds to 0.25% on February 14. The BoJ has sought to cap the 10-year JGB yield at around 0% and, under its policy of yield curve control, has allowed it to fluctuate 25 basis points (0.25 percentage point) on either side of the target.
Investor speculation about prospective policy normalization by the BoJ has increased as other major central banks have tightened monetary policy amid a buildup of inflationary pressures in the global economy. However, BoJ Governor Haruhiko Kuroda has continued to assert that, with inflation in Japan remaining well below the central bank’s 2% target, it will continue on its current trajectory, which is among the most dovish in the world. He has said that it will be hard for inflation to hit 2% unless wages rise in tandem with prices. Wage growth remained anemic in December.
Government extends quasi-states of emergency, adds another region to the list
The government extended by three weeks to March 6 the coronavirus quasi-states of emergency in Tokyo and 12 other prefectures, as well as adding the Kochi region to the list. While Prime Minister Fumio Kishida said that the increase in new cases has been slowing, health experts say the latest wave has yet to peak. Amid some criticism that the government has been slow to roll out its COVID-19 booster program, Kishida has set a target of administering 1 million booster shots a day by the end of February.
China
Chinese stocks rose amid supportive official comments and a perception that the country’s regulatory crackdown cycle had peaked. The Shanghai Composite Index gained 3% and the CSI 300 Index added 0.8% since January 28, the last day of trading before a weeklong Lunar New Year holiday.
During the week, the People’s Bank of China (PBOC) said that loans for affordable rental housing would not count toward the limited amount banks can lend to the property sector. An editorial in the Communist Party newspaper People’s Daily stated that China’s economy still required capital for growth despite needing rules on the use of capital to reduce monopolistic behavior. Another article suggested that regulatory curbs on the internet sector would become more rules-based, raising the prospect that the government’s crackdown on the tech sector would ease.
In economic readings, the private Caixin/Markit services purchasing managers’ index (PMI) fell to 51.4 in January, a five-month low, from December’s 53.1 reading. Growth momentum slowed amid the renewed rise in COVID-19 cases across China and restrictions to stop its spread, Caixin said in the release.
PBOC data showed that China’s foreign currency reserves fell in January by roughly USD 28 billion to USD 3.22 trillion, a lower-than-expected level in a month when the dollar gained. New aggregate financing and new loans rose more than forecast to record levels in January, central bank data showed, providing evidence of frontloading lending to local governments and companies. China’s credit growth will likely continue to accelerate in the coming months amid declines in borrowing costs, a looser fiscal stance, and easing constraints on mortgage lending, analysts believe.
In property sector news, cash-strapped developer China Evergrande Group plans to pay off its debt by restoring construction and sales activity, not by selling assets on the cheap, and vowed to complete 50% of pre-sold homes this year, Reuters reported. However, worries about cross defaults and delayed payments in China’s debt-laden property sector continued to keep investors on edge. Shares and bonds of Zhenro Properties, a mid-size developer in Shanghai, plunged by over 65% and 20%, respectively, on Friday amid speculation that the company wouldn’t be able to pay a USD 200 million bond in March, Bloomberg reported.
The yield on the 10-year Chinese government bond rose to 2.81% from 2.728%. The yuan ended the week flat versus the U.S. dollar at around 6.36 per dollar.
Other Key Markets
Turkey
Turkish stocks, as measured by the BIST-100 Index, returned about 5.5%.
During the week, the government’s Ministry of Finance held its first meeting with international investors in London since March 2021. The Minister of Treasury and Finance, Nureddin Nebati, presented and discussed President Recep Tayyip Erdogan’s New Economic Program (NEP) that Turkey has been following in recent months. T. Rowe Price sovereign analyst Peter Botoucharov attended the meeting and left with three main takeaways:
1) Turkey will stick to the NEP at least through the next general elections, which are currently scheduled for June 2023—though there is a small probability that elections will be held sooner;
2) The Turkish government is aware of the byproducts of the new model—namely, substantially higher inflation and Turkish lira depreciation—but the regime seems ready to live with these in order to achieve stronger economic growth and job creation; and
3) Stabilizing and growing the central bank’s foreign exchange (FX) reserves remain a priority through measures such as the already introduced FX-linked lira deposit instruments, new gold-linked lira deposit instruments (soon to be officially announced), and FX swap lines.
Botoucharov notes that the Ministry of Finance mentioned the possibility of pursuing two particular initiatives that could be very difficult to achieve. One is for the central bank to purchase foreign currencies on the open market; the other is for the central bank to achieve single-digit inflation by the time elections are held in June 2023.
Chile
Chilean stocks, as measured by the S&P IPSA Index, returned about 5.1%. Chilean assets were hurt by the latest inflation data, which were much stronger than expected. During the week, the government reported that headline inflation in January increased 1.2% month over month and 7.7% year over year. Expectations were for increases of 0.5% and 7.0%, respectively.
The underlying data were also unfavorable. Price pressures were evident across the board, including among perishables, energy, goods, and services. Also, the central bank’s preferred measure of core inflation (which excludes volatile components) was 1.2% month over month or 5.8% year over year.
As a result of these inflation data, as well as concerns regarding second-round inflation effects, investors are concerned that the central bank will need to raise its key policy rate—currently at 5.50%—higher than previously expected. However, a higher terminal rate would give the central bank more room for cutting rates when growth and inflation decelerate.
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