U.S.

Investors welcome signs of slowing economy, possible turnaround in sentiment

Stocks carried over momentum from late the previous week as investors appeared to welcome signs of a slowing economy and fading inflationary pressures. Small-cap shares and the technology-heavy Nasdaq Composite outperformed. Consumer discretionary shares performed best within the S&P 500 Index, helped by rebounds in Amazon.com and Tesla, while the typically defensive health care and utilities sectors lagged. Weakness in Verizon and Google parent Alphabet also weighed on communication services shares.

Stocks recorded much of their gains for the week on Tuesday, which T. Rowe Price traders attributed in part to a suspicion on Wall Street that negative sentiment had reached extreme and unsustainable levels. The Bank of America released its Monthly Fund Manager Survey, which showed that funds’ cash holdings had reached their highest levels since 9/11, while their equity exposure was at the lowest levels since the recession and global financial crisis of 2007–2009. A record number of fund managers also reported taking on lower-than-normal risk. The survey seemed to spark a wave of short covering, as investors who had been betting that stocks would go down closed out positions.

Hopes that corporate earnings prove more resilient than expected

Investors also absorbed a number of prominent second-quarter earnings reports, many of which indicated a slowing economy but also some greater resilience in corporate profits and outlooks than many had expected. Netflix shares rose by roughly one-quarter over the week after the streaming giant reported that it had lost fewer subscribers than expected in the last quarter and anticipated resuming subscribers later in the year. The major indexes fell back at the end of the week, however, after social media shares fell sharply. Snap (which operates Snapchat) reported a flat increase in advertising revenue in the second quarter and failed to offer guidance for the remainder of the year.

Advertising is typically an early target of corporate budget trimming when signs of slowing demand emerge, and the week’s economic data arguably provided further evidence for caution. Weekly jobless claims, reported Thursday, came in above expectations and hit their highest level (251,000) in nine months. A gauge of manufacturing in the mid-Atlantic region fell to its lowest level since early in the pandemic, and the S&P Global Composite Index for July fell into contraction territory for the first time in nearly two years, dragged lower by a sharp decline in service sector activity. Housing data generally disappointed, with housing starts and existing home sales missing consensus expectations.

Longer-term U.S. Treasury yields hit two-month lows on weak economic data

The weak economic data briefly pushed the yield on the benchmark 10-year U.S. Treasury note down to 2.73% on Friday morning, its lowest level in nearly two months. (Bond prices and yields move in opposite directions.) The broad tax-exempt bond market generated flat returns through most of the week and underperformed Treasuries. Our traders reported that shorter-term municipal securities were well bid, while demand at the longer end of the municipal yield curve remained weak.

According to our traders, the primary market for investment-grade corporate bonds was active this week, driven in part by banks issuing new bonds after reporting earnings. Despite the uptick in supply, corporate credit spreads tightened alongside improved macro sentiment. Overnight demand from Asia focused on intermediate- and longer-maturity credits further supported market technicals.

High yield bonds traded higher along with equities amid the somewhat more stable macro backdrop. According to our traders, broader risk markets were focused on earnings results and the European Central Bank’s (ECB) first rate hike in 11 years ahead of next week’s U.S. Federal Reserve monetary policy meeting. Primary market activity continued to be light with modest new issuance. Our traders reported that bank loans were well bid as collateralized loan obligations drove much of the demand, while some sellers sought to take advantage of the market’s recent price appreciation to raise cash. The loan primary space remained quiet, with only a couple of new deals announced early in the week.

U.S. Stocks

^{This chart is for illustrative purposes only and does not represent the performance of any specific security. Past performance cannot guarantee future results.
Source of data: Reuters, obtained through Yahoo! Finance and Bloomberg. Closing data as of 4 p.m. ET. The Dow Jones Industrial Average, the Standard & Poor’s 500 Stock Index of blue chip stocks, the Standard & Poor’s MidCap 400 Index, and the Russell 2000 Index are unmanaged indexes representing various segments of the U.S. equity markets by market capitalization. The Nasdaq Composite is an unmanaged index representing the companies traded on the Nasdaq stock exchange and the National Market System. Frank Russell Company (Russell) is the source and owner of the Russell index data contained or reflected in these materials and all trademarks and copyrights related thereto. Russell® is a registered trademark of Russell. Russell is not responsible for the formatting or configuration of these materials or for any inaccuracy in T. Rowe Price's presentation thereof.}

Europe

European shares rose as market sentiment remained strong despite a series of discouraging economic data releases and the ECB decision to raise interest rates for the first time in over a decade. In local currency terms, the pan-European STOXX Europe 600 Index ended the week 2.88% higher, while Germany’s Xetra DAX Index rose 3.02%, France’s CAC 40 Index increased 3.00%, and Italy’s FTSE MIB Index returned 1.33%. The UK’s FTSE 100 Index also performed well, returning 1.64%.

Core eurozone bond yields fell as concerns about economic growth drove demand. This trend was amplified by the release of eurozone Purchasing Managers’ Index (PMI) data, which indicated that economic activity contracted in July. UK gilt yields broadly tracked core markets. Peripheral eurozone bond yields generally ended the period level. The Italian 10-year government bond yield rose following Prime Minister Mario Draghi’s resignation but retreated later in the week.

ECB raises interest rates to curb inflation; eurozone PMIs decline

The ECB raised interest rates by 50 basis points as part of its efforts to curtail rising inflation. This larger-than-expected adjustment was combined with the announcement of a new bond-buying tool called the Transmission Protection Instrument, which was introduced as a measure against the surge in borrowing costs. The tool may also be used against any unprecedented market activity that could pose a serious threat to the transmission of monetary policy across the euro area.

The eurozone economy showed signs of slowing, as output and new orders both declined for the first time since the start of COVID-19 lockdowns in 2020. Manufacturing PMI fell to 49.6 in June, from 52.1 in May. The services sector PMI fell to 50.6 from 53, likely reflecting diminished consumer confidence as the cost of living continued to increase.

UK inflation hits new high; Russia resumes Nord Stream natural gas flows

UK consumer price inflation reached a new 40-year high of 9.4% year on year in June—up from 9.1% in May. The main driver of inflation was an increase in fuel and energy costs and food prices. The UK labor market continued to tighten as the number of people employed continued to rise, and unemployment fell.

Russia restarted Nord Stream gas flows to Europe following its closure for a 10-day maintenance period, but shipments remained at approximately 30% of previous capacity. The pipeline accounts for more than a third of Russian gas exports to Europe. The European Union announced plans for member states to cut demand by 15% amid Russian supply fears.

Italian Prime Minister Draghi resigns

Italian Prime Minister Mario Draghi resigned after the Five Star Movement, Forza Italia, and League parties boycotted the confidence vote that took place on Thursday. While Draghi won the vote 95 to 38, he said he wanted the widest possible backing to continue in the role. After parliament was dissolved following Draghi's resignation, President Sergio Mattarella announced that the next election will take place September 25.

Japan

Japan’s stock markets rose over the week, with the Nikkei 225 Index gaining 4.20% and the broader TOPIX Index up 3.35%. As widely expected, the Bank of Japan (BoJ) maintained its ultra-loose monetary policy to support the country’s still-fragile economic recovery, continuing to diverge from other central banks’ tightening policies. The yield on the 10-year Japanese government bond finished the week at 0.22%, down from 0.23% at the end of the previous week, while the yen strengthened to around JPY 137.4 against the U.S. dollar, from about JPY 138.5 the prior week. Japan’s currency has remained near 24-year lows, with BoJ Governor Haruhiko Kuroda attributing the weakness to the rise of the greenback against other major and emerging market currencies, rather than the BoJ’s accommodative policy stance.

BoJ maintains ultra-loose monetary policy

At its July monetary policy meeting, the BoJ left its short-term policy interest rate unchanged at -0.1%, while maintaining its long-term yield target and asset purchase program, with a view to achieving its inflation target of 2%. It had been widely anticipated that Japan’s central bank would maintain its accommodative stance, which is in stark contrast to the tighter monetary policy being pursued by other major central banks.

The BoJ downgraded its forecast for economic growth, to 2.4% year on year (y/y) in fiscal 2022 (from the 2.9% expansion it projected in April), while revising upward its outlook for inflation, expecting the consumer price index (CPI) to rise by 2.3% y/y, up from April’s 1.9%. In June, Japan’s core CPI rose 2.2% y/y, remaining above the BoJ’s target for the third month, as higher global raw material costs pushed up domestic prices. Inflation in Japan remains low compared with other developed economies.

Expansion in private sector activity softened in July

Flash PMI data showed softening expansion in activity across Japan’s private sector in July. Services activity growth slowed sharply, while operating conditions in the manufacturing sector improved modestly. Regarding the year-ahead outlook, private sector firms were less optimistic, amid inflationary pressures stemming from sustained material shortages and the prolonged impact of the war between Russia and Ukraine.

Government does not plan to impose movement restrictions

Japan’s daily COVID-19 cases rose to record highs, including in the capital Tokyo. While the government is watching the impact on the medical system with maximum caution, it has ruled out the possibility of imposing movement restrictions.

China

China’s stock markets posted mixed returns after Premier Li Keqiang tempered expectations of excessive stimulus and indicated flexibility on China’s annual growth target. The broad, capitalization-weighted Shanghai Composite Index added 1.3% and the blue chip CSI 300 Index, which tracks the largest listed companies in Shanghai and Shenzhen, dipped 0.2%, Reuters reported.

At a meeting of global business leaders hosted by the World Economic Forum, Li said that as long as employment is relatively sufficient, household income grows, and prices are stable, slightly higher or lower growth rates are both acceptable. China issued a growth target of about 5.5% for 2022 at a Politburo meeting in April, but many economists believe that Beijing will have a hard time meeting its goal.

The China Banking and Insurance Regulatory Commission asked lenders to provide credit to eligible developers so they can complete halted projects as a growing number of homebuyers across China threatened to stop making mortgage payments on unfinished projects. The mortgage boycott movement erupted in June and spread to at least 320 projects nationwide and affects loans worth as much as CNY 2 trillion (USD 296 billion), according to Bloomberg. Even as some banks said they are considering giving homeowners a grace period on payments, suppliers to the property sector have joined the boycott.

The People’s Bank of China maintained interest rates as expected, keeping the one-year loan prime rate (LPR) unchanged at 3.70% and the five-year rate at 4.45%. The LPR is a lending reference rate set monthly by 18 banks and announced by the central bank. Banks use the five-year LPR to price mortgages, while most other loans are based on the one-year rate.

In corporate news, London-based lender HSBC became the first foreign bank to set up a Chinese Communist Party committee in its investment banking subsidiary in the country, the Financial Times reported, a move that could pressure other foreign banks to follow suit. HSBC said in a statement that such branches “are common and can be set up by as few as three employees,” but that they would have no influence on the business nor formal role in its day-to-day activities.

On the regulatory front, China’s cybersecurity regulator fined Didi Global CNY 8 billion (USD 1.2 billion), potentially signaling an end to the government’s crackdown on the ride-hailing app and clearing a path for a public listing in Hong Kong. Didi was one of the most high-profile targets of Beijing’s clampdown on the country’s internet industry starting in 2020, when regulators unexpectedly canceled the initial public offering of Ant Group.

The yuan currency eased to CNY 6.764 per U.S. dollar from last week’s CNY 6.75, Reuters data showed. The 10-year Chinese government bond yield was flat, according to Dow Jones. Outflows from China’s bond markets totaled USD 14 billion in June as surging U.S. Treasury yields reduced the relative attractiveness of Chinese bonds.

Other Key Markets

Poland

Polish President Andrzej Duda recently signed into law a bill that enables mortgage borrowers to take a “mortgage holiday.” Specifically, the new law—which was passed with wide legislative support—will allow homeowners to suspend their mortgage payments for up to four months this year and up to four months in 2023. While the intention is to give mortgage holders some financial relief, T. Rowe Price credit analyst Ivan Morozov believes that the new law’s stimulative impact could reduce the effectiveness of the central bank’s interest rate increases this year as it attempts to bring inflation—recently measured at a year-over-year rate of 15.6%—under control.

Turkey

Turkish stocks, as measured by the BIST-100 Index, returned about 5.6%. On Thursday, Turkey’s central bank held its regularly scheduled monetary policy meeting and, as expected, kept its key interest rate—the one-week repo auction rate—unchanged at 14%. Despite a year-over-year consumer price index inflation rate that has soared to almost 80% in June, the central bank has kept the repo rate at 14% since mid-December 2021.

Based on his macroeconomic observations and his reading of the central bank’s post-meeting statement, T. Rowe Price sovereign analyst Peter Botoucharov notes that there has been some improvement in Turkey’s current account balance. He attributes the improvement to increased tourism, as well as somewhat lower energy import costs, as oil prices have backed away from multiyear highs reached following Russia’s invasion of Ukraine. As a result, he believes the current account deficit this year could decrease to about 2.2% to 2.5% of Turkey’s gross domestic product (GDP) versus an earlier forecast of 3.0% to 3.5% of GDP. In addition, Botoucharov notes that Turkey has seen some slowing in credit growth, though he would not be surprised to see the government and central bank introduce additional macroprudential measures to keep credit growth and foreign exchange reserves steady.