Violent relapse of the equity markets

Yesterday we stressed how fragile we thought the very positive reaction of the US equity markets to the Fed’s 50bp rate hike was in the current context. It did not take long for the correction to occur, and it was extremely violent, with the Nasdaq in particular falling by 5%. Long-term interest rates also rebounded sharply, with the US 10-year rate breaking back through the 3% mark, while the dollar rebounded, with the EUR/USD exchange rate testing its lows, below 1.05, this morning. The inflationary environment and its implications for monetary policy are struggling to be taken into account by markets that are emerging from 40 years of disinflation. 

Yesterday, the Bank of England expectedly raised its base rate by 25bps to 1% and 3 BoE members voted in favour of a 50bps increase. However, the pound fell sharply, with the EUR/GBP exchange rate rising to its highest level since December (0.8545) as the BoE now sees the inflation peak not arriving until October (at over 10%) and anticipates a recession in the UK economy next year. 

Outside of inflation, the effects of the war in Ukraine have perhaps not yet been measured as well as they were this morning with the 4.6% decline in German manufacturing output in March, a figure that follows yesterday’s 4.7% drop in orders. The automotive sector is particularly hard hit, both because of the collapse in sales to Russia and the shortage of components limiting supply.

Today, US job report. Job creation has slowed significantly in the private sector according to ADP (+247k) and jobless claims seem to be starting to pick up. A nasty surprise for the US equity market of the type with fewer jobs and higher wage increases cannot be ruled out.