The week has seen US equities once again making record highs as somewhat hawkish messaging from the Federal Reserve being offset by better than expected inflation data. Meanwhile, on this side of the Atlantic, European equities have been unsettled somewhat by the outcome of the European Parliamentary elections and the surprise announcement of legislative elections in France, to take place at the end of this month.
President Macron’s announcement of parliamentary elections in France came as a big surprise but was announced on the back of a very strong showing for Marine Le-Pen’s far-right Rassemblement Nationale in European Parliamentary elections. Across Germany and Italy, far right parties also performed strongly, though the gains were not enough to stop the centre-right alliance of parties from maintaining control of the overall European Parliament. Macron’s tactics appear to be to see if the French people really want a far-right party in power or if this was a protest vote. Macron said the election is needed to “calm the volatility in the French parliament” and achieve “clarity on the direction of the country”. A win for the National Rally would limit Macron’s ability to implement policy in his final three years in office, though he is already governing from a weak position in terms of controlling Parliament. Macron also appears to be hedging his bets – if National Rally do win, he is hoping they will preside over three years of political chaos, and their chances at the next Presidential election would be diminished. On the UK elections, the polling continues to point to a significant Labour win and while the manifesto launches this week have gathered significant attention, the only shift has been a narrowing in the polls between the Conservative and Reform parties. The Labour party continues to have solid momentum while the Conservatives appear to stumble from one error to the next. Just under three weeks to go…. at least we have Euro 2024 starting today as a distraction (!)
The US Federal Reserve meeting left interest rates on hold at a 23 year high as expected but updated forecasts from officials showed a hawkish stance on inflation, with the median expectation for rates by year end implying just one interest rate cut. This was a notable shift from their previous forecast, which showed an expectation of three interest rate cuts over the rest of the year. The more hawkish outlook was despite the CPI data coming in lower than expected in May, news that Fed Chair Jay Powell described as “encouraging”.
The Fed statement noted “modest further progress” toward their 2% inflation goal but said the Fed “does not expect” a reduction in interest rates “until it has gained greater confidence” that inflation is heading towards their 2% target. The press conference saw Jay Powell say “the most recent inflation readings have been more favourable” but he downplayed the most recent inflation data as only one data point while highlighting the solid performance of the economy and labour market. The Fed also updated their economic forecasts, with their expectations for growth unchanged at 2.1% for the year but the inflation forecast was increased from 2.4% to 2.6%.
The latest employment report supported Powell’s assessment of a healthy labour market – the US created 272,000 jobs in May, well ahead of the expected 180,000. While the unemployment rate ticked up slightly, to 4.0%, this remains a historically very low level. The CPI data mentioned above showed US headline inflation easing to 3.3% in May versus 3.4% expected. Core CPI was also below expectations, at 3.4%. Headline inflation increased by just 0.01% month on month from April to May, the slowest pace since July 2022. Markets were encouraged by the easing in the pace of inflation, and another month that appears to have boosted confidence that the higher than expected pace of inflation seen during the first quarter of the year has not become a trend. As a result, despite the tone of the Federal Reserve, expectations for rate cuts at the back end of the third quarter have risen over the week.
Despite the minor wobbles in European equities this week, risk appetite overall remains positive with many indices close to, or at record highs. As has often been the case, US tech stocks continue to lead the way, with the so called Magnificent 7 up 34% so far this year. Of course, within this select group of companies, there are big differences in performance – Nvidia is up 152% so far this year while Tesla is down 27%. Nvidia alone is responsible for 35% of the gains in the S&P500 index in 2024. The market backdrop is relatively benign for now, with inflation heading in the right direction (albeit slowly) and economic growth steady, if not spectacular. Equity markets appear to have digested the shift in rate expectations since the start of 2024 very well – bear in mind we started the year with expectations of 6-7 rate cuts in the US, UK and eurozone, and right now it seems we will be lucky to get two. All the same this is the result of economies holding up well, and central banks seeing no urgency to cut rates. The lack of any real worries for markets is a worry in itself – we are yet to see a proper pullback this year, and history shows markets inevitably find a reason to correct for one reason or another. But with financial conditions loose, and a benign economic backdrop, it would appear any pullbacks may well be seen as buying opportunities rather than a time to take risk off.
