Market Review 05/2023

There were no central bank surprises during the last month of spring, and now the main interest of investors is focused on how many times (and by how many points) ECB will hike rates before it stops, and will Fed pause its aggressive monetary policy in June? As for the U.S. debt ceiling and possible technical default, well, no one took this issue seriously. Now, when the problem “is solved”, the bond market returned to its consolidation phase, looking for reasons to make the next move in either direction.

Debt ceiling – the phantom menace

Meanwhile, the S&P 500 index finally managed to push through the 4150-4170 resistance level. The short-lived stress that the market has been experiencing due to uncertainty over the increase in the national debt ceiling is no longer a matter of concern. Ultimately, the ceiling will be completely taken off until January 1, 2025, with Democrats agreeing to reduce the budget deficit by 1.5 trillion dollars over the next 10 years. Theoretically, additional borrowing can quickly neutralize any crisis that may pose a threat to the U.S. market and economy in this pre-election year, as all restrictions are now cancelled. In the absence of any major visible surprises, one should expect a slow upward movement of the stock indices, while keeping her eye on the rates, as this factor will rather have a restraining effect on the market dynamics.

European and US equity markets

Inflation is still a problem

Inflation, meanwhile, is cooling in the United States, but too slowly for Fed’s liking. The labor market remains “hot” and it puts wages under pressure and increases costs, and, ultimately, does not contribute to a sustainable reduction in inflation. If a year ago the Fed spoke about a target inflation rate of 2%, now the opinion of inflation remaining around 3% for a long period of time becomes more vocal. In addition, the Fed has repeatedly said that it wants to achieve a situation, where the real yield on treasuries will be close to at least 100 basis points (i.e. a yield of around 4% per annum), so a decrease in yields in the nearest future would look strange from that perspective. Again, we still believe that the Fed has reached its terminal rate levels in this cycle (or is very close to it), but, at the same moment, the market is “too confident” in subsequent aggressive rate reduction. Therefore, long-term maturities still represent an increased risk, and it is safer for investors to concentrate on maturities not exceeding 4-5 years.

Gold price, USD/oz

Dollar appreciates; precious metals and oil take a step back

EUR/USD pair finally started to show some weakness, as we saw a selloff at 1.1000 region after weeks of fighting, so far taking us to a 1.0670 mark. Next important level to the downside is 1.0500, which we expect bulls to hold and produce at least some bounce in weeks to come. For trading purposes, we are neutral around current levels, looking to re-sell the pair closer to 1.0900, with treating any move above 1.1100 as an alarm.

Precious metals lost some steam after weeks of good performance. Even the “risk” of U.S. sovereign debt default could not add any fuel to the fire. We mentioned earlier that gold’s “triple top” formation on the charts acts as a warning, and that the XAU/USD 2100 level might prove to be too strong of a resistance to break, hence keeping some of the powder dry before the uptrend gathers more energy could be a good idea. Silver respected the XAG/USD 26.50 level too and dropped just below 23 dollars per troy ounce, which we consider as a potential low for this correction. We continue to look at XAG/USD 22.30-22.70 zone as a major support and potential “buy” area (with all previously mentioned caveats still in place).

The weakness in oil prices came as an unpleasant warning to us. We mentioned already that “stops” might be triggered at support area near 70 dollar per barrel, taking us all the way down to the next support zone of around 63 USD/bbl, so we now look at how the situation evolves in the near term. Natural gas is still weak and looks very «cheap» to our eye. If it stays near current price levels even as purchases for the next heating season start, then these would be good news for consumers and bad news for inflation (and interest rates eventually).

Benchmark 10-year bond yields

Global economies get weaker

Chinese manufacturing sector keeps slowing down with the official PMI dropping for the fourth month in a row. It looks like global demand is just too low right now to provide any significant help for the sector. For the second month in a row, services showed weakness, with non-manufacturing PMI coming in lower than the last month and lower than expected.

U.S. manufacturing is suffering too, with PMI showing the reading of 46.9 points in May from 47.1 in April, which was lower than expected. On top of that, U.S. consumer sentiment worsened – the University of Michigan’s monthly Consumer Sentiment Index decreased by 4.3 points to 59.2 in May. Finally, even the U.S. labor market started to show fragility, with the unemployment rate going up to 3.7%, showing that tight monetary policy is starting to weigh on the labor force.

Eurozone factory activity keeps on slowing down too – S&P Global final manufacturing PMI decreased to 44.8 points in May compared to a reading of 45.8 in April. The consumer keeps on getting hurt by the tight monetary policy and high inflation. Eurozone Composite PMI came in lower than expected at 53.3 with both the Manufacturing and Services sides struggling. Economic sentiment dropped significantly – from last month’s 99 points to 96.5.

High Yield bond Indexes

Standing on the shoulders of giants

The saying “Sell in May and go away” has only partially worked this year. In America, the Nasdaq 100 added 7.6%, while the S&P 500 closed the month up 0.25%. However, it must be said that the sharp growth of the Nasdaq 100 index was due to the rally in stocks of only 5 companies: Nvidia (+36.3% in May), Microsoft (+7.11%), Amazon (+14.35%), Tesla ( +24.11%) and Alphabet (+14%). In total, they provided the index with 736.25 points of growth, i.е. 73%. If we add Apple shares (+4.61%) to this list, it turns out that six technology giants provided 80.6% of the total growth in May. The dependence of the entire market on the dynamics of the shares of these giants, which, by the way, account for 25% in the S&P 500 index, becomes exceptional and a bit frightening.