Market Analysis May 2022

It is imperative to underscore that any discussion of past performance should not serve as a predictor of future outcomes and should not be solely relied upon for decision-making. Furthermore, the sectors, securities, regions, and countries mentioned within this context are exclusively for illustrative purposes and should not be construed as recommendations for either buying or selling.

May witnessed largely flat performance in US equities. The Federal Reserve adopted an increasingly hawkish stance during the month, fueled by mounting concerns about growth. Fed Chair Jerome Powell highlighted that policymakers would persevere in their efforts until inflation demonstrates a convincing decline. Powell also hinted at the potential necessity for a more aggressive approach to achieve this goal.

This shift in the Fed's stance was prompted by inflationary pressures, notwithstanding indications of a slowdown in growth. The preferred inflation metric of the central bank, the PCE, registered a renewed increase in April. However, this increase was more modest, standing at 0.2% month-on-month compared to the previous 0.9% surge. Furthermore, industrial activity, as measured by the purchasing managers' index (PMI), dipped from 56 to 53.8 in May. Additionally, GDP was confirmed to have contracted during Q1. A downward trajectory was also noted in consumer confidence. (The PMI indices rely on survey data from manufacturing and services sector companies, with readings above 50 indicating expansion).

The S&P 500 exhibited a flat performance throughout the month. The energy sector enjoyed robust performance driven by oil and gas constituents, while utilities and financials also witnessed gains. Conversely, consumer-linked sectors, encompassing both discretionary and staples, showed weakness. This decline was particularly evident in major food and household product retailers, attributed to concerns about inflation's impact on households.

Eurozone equities recorded a modestly positive return during May, with notable strength observed in the energy sector, driven by robust oil demand. The financials sector also experienced gains, particularly within the realm of banks. Defensive sectors such as consumer staples and real estate demonstrated weaker performance. Information technology stocks, meanwhile, underperformed.

Eurostat's preliminary estimate indicated that Euro area annual inflation was projected to rise to 8.1% in May 2023, up from 7.4% in April. This escalation exerted pressure on the European Central Bank, potentially paving the way for interest rate hikes, which might commence at the July 21 meeting. The flash eurozone composite PMI for May was reported at 54.9, indicating positive growth. However, this figure marked a decrease from April's reading of 55.8.

Amidst the ongoing conflict in Ukraine, EU leaders collectively approved a partial embargo on Russian oil imports, with the embargo set to be implemented by the end of the year. Additionally, Russia's Gazprom announced its decision to halt gas supplies to Shell in Germany after the UK-based oil company declined to adopt the Kremlin's rouble payment mechanism.

Consistent with trends since the beginning of 2022, large-cap equities continued to outperform in May. Leading this charge were the energy, financials, and basic materials sectors. However, small and mid-cap equities faced persistent underperformance.

April saw UK inflation, as measured by the consumer price index, reaching a 40-year high of 9%, up from 7% YoY in March. This surge was primarily attributed to the government's increase in the energy price cap, which had previously shielded households from mounting wholesale energy prices.

The UK economy expanded by 0.8% during the first quarter, following the relaxation of coronavirus restrictions. Nonetheless, a deterioration in the monthly profile for March, resulting in a 0.1% contraction in GDP, raised concerns. This divergence from the anticipated steady economic growth ignited apprehensions of a potential recession later in the year. Chancellor Rishi Sunak unveiled an additional package aimed at addressing the cost of living crisis, intended to assist households facing projected further increases in energy bills during the upcoming autumn.

At the outset of May, the Bank of England (BoE) raised the UK base interest rate, known as the "Bank Rate," from 0.75% to 1%. The BoE also released its latest forecast, anticipating that the Bank Rate would climb approximately one percentage point higher over the subsequent three years.

The Japanese stock market embarked on a weak trajectory in May but ultimately managed to yield a total return of 0.8% by month-end. The yen displayed fluctuations, temporarily strengthening against the US dollar before settling back around the 130 level.

While the ongoing turmoil in Ukraine retained its significance, market attention largely gravitated toward the US inflation outlook and its prospective implications for interest rates. The Japanese market mirrored the fluctuations witnessed in the US, bolstered by the results season for the fiscal year, which concluded in March. Amidst uncertainty on the macroeconomic front, several companies presented conservative forecasts for the upcoming year. Nevertheless, the overall tone of results and guidance surpassed expectations.

Discussions regarding the trajectory of Japanese inflation were afoot, with May figures indicating a surge in core CPI (excluding fresh food) to 2.1%. This increase was attributed to the significant reduction in mobile phone charges, no longer exerting an impact on year-on-year figures.

Prime Minister Kishida unveiled his "New Capitalism" policy, a shift towards prioritizing economic growth, which garnered favorable reception within the equity market.

In the MSCI Asia ex Japan index, equities underwent minimal change in May. Gains in China and Taiwan offset declines in India and Indonesia. India's market faced the most significant decline, with foreign investors divesting from financial services and information technology stocks. Taiwan emerged as the index's strongest performer, buoyed by China's positive return, driven by the easing of Covid-19 lockdown measures and plans for economic stimulation. Hong Kong's shares also concluded on a positive note, while South Korea and Thailand reported modest price increases.

May witnessed divergent movements within the bond market. The US fixed income market received support subsequent to the pronounced rise in yields during the preceding months. Conversely, yields in Europe and the UK continued their upward trajectory due to concerns about inflation and the anticipation of interest rate hikes.

In the US, Treasury yields exhibited volatility while ultimately remaining within a specific range. The 10-year yield receded from 2.94% to 2.85%, and the 2-year yield declined from 2.73% to 2.56%. Despite the persistently hawkish stance of the Federal Reserve, risk sentiment deteriorated, favoring safer assets. US investment grade (IG) corporate bonds delivered a positive total return, outperforming Treasuries, while high yield bonds experienced underperformance.

Across Europe, the German 10-year yield rose from 0.94% to 1.13%. European Central Bank President Christine Lagarde indicated preparedness to initiate interest rate hikes in July. Consequently, European IG corporate bonds declined and exhibited underperformance relative to government bonds. High yield bonds within the region also demonstrated underperformance, as spreads widened against government bonds.

Within the UK, the 10-year yield ascended from 1.91% to 2.10%, while the 2-year yield experienced a marginal decrease from 1.61% to 1.58%. UK CPI reached a 40-year pinnacle with a YoY escalation of 9% in April. Investment grade sovereign bonds presented positive returns, while high yield experienced a decline. EM local currency bonds witnessed robust performance, though EM corporate credit saw a decrease.

Lastly, the Refinitiv Global Focus convertible bond index reported a -4.1% loss in US dollar terms for the month. This outcome stemmed from lackluster new issuance of convertible bonds, with a volume of only $12 billion since the beginning of the year, in contrast to over $76 billion for the same period the previous year.