Central banks around the world took center stage last week. The Federal Reserve (Fed) decided to raise the Fed funds rate by 0.75% after seeing hot May inflation data and increasing inflation expectations from consumers. The Fed is not the only central bank dealing with inflation. The world is grappling with a myriad of cross currents including the reopening of economies, supply chain issues, and a war in Ukraine, all of which are contributing to higher prices.
The shift towards monetary tightening has investors on edge as the Fed will have to wrangle inflation without unduly hurting the economy. The result has been tightening financial conditions, higher yields for bonds, and lower valuations for equities.
As investors have worried about the Fed’s balancing act, the S&P 500 officially entered a bear market last week after declining by more than 20% from its peak in early January. However, underneath the surface, there has been more volatility, and many stocks had already corrected more than the 20% necessary to qualify as a bear market. For example, the technology sector is down close to 30% and the communications services and consumer discretionary sectors are down more than 30%. While volatility is elevated in equity markets, the unusual market volatility may be more concentrated in the bond market. The MOVE index measures Treasury bond volatility, and the current high readings are at levels that are similar to the readings seen during the peak of the pandemic.
A look back
- U.S. equities led global stocks lower last week with the S&P 500 down about 5.8%. The U.S. lagged its international peers on the week.
- Yields rose again last week with the 10-year U.S. Treasury yield up by about 0.07% and the 2-year yield up by about 0.11%, flattening the curve.
- The Fed raised the Fed funds rate by 0.75%, the largest hike since 1994. The committee also increased their projections for where they think the Fed funds rate will have to go this year and downgraded their economic growth outlooks.
A look ahead
- A summit of E.U. leaders starts next week as the crisis in Ukraine enters its fifth month. The European Central Bank will also publish its economic bulletin for the Eurozone area.
- Fed Chair Powell will testify to Congress and markets will be watching how he represents the Fed’s recent move in tightening financial conditions.
- Economic releases: Chicago Fed National Activity Index, New & Existing Home Sales, S&P Global U.S. Manufacturing & Services, U. of Michigan Sentiment & Inflation Expectations.
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