U.S.

Stocks suffer largest weekly drop in three months

Stocks fell sharply as inflation fears intensified and short-term bond yields reached levels last seen in 2007. The S&P 500 Index recorded its largest weekly drop since mid-June and hit its lowest point on an intraday basis since mid-July. Growth stocks fared worst, with the technology-heavy Nasdaq Composite falling nearly 5.5%. Communication services and information technology shares led the declines within the S&P 500 as Google parent Alphabet and Facebook parent Meta Platforms hit new 52-week lows. Industrials and materials shares were also especially weak.

T. Rowe Price traders noted that the selling was relatively orderly, however, with the Cboe Volatility Index (VIX) remaining well below the levels seen at the start of the pandemic. Trading volumes were also contained, with the number of shares traded coming in below average for the year on Tuesday, when the S&P 500 suffered its worst drop in two years.

Peak inflation questioned

The defining event of the week appeared to be Tuesday’s consumer price index (CPI) report, which came in above expectations and dimmed hopes for some investors that the economy had moved beyond “peak inflation.” Headline prices rose 8.3% for the 12 months ended in August versus consensus expectations for an increase of around 8.1%. More concerning may have been that core inflation (excluding food and energy) jumped to 6.3%—its highest level since March and above expectations for a rise of 6.1%. A 0.7% housing cost increase in August was partly to blame, but rising food and medical care prices also contributed heavily. Core producer prices, reported Wednesday, offered a somewhat more hopeful story, continuing a year-on-year decline that began in April, falling to 7.3% in August from 7.6% in July.

The week brought mixed messages on wage inflation, which has been a primary concern of policymakers. Media reports said that Goldman Sachs will soon cut jobs, joining a list of large companies, including Ford Motor and Microsoft, planning layoffs. Weekly jobless claims, reported Thursday, offered a different picture, falling to 213,000, their lowest level since early summer.

Thursday also brought closely watched retail sales data. The Labor Department reported that a 4.2% decline in spending at gas stations in August helped foster solid increases in spending on cars, “miscellaneous stores,” and restaurants and bars. Falling gas prices also helped the University of Michigan’s preliminary reading on consumer sentiment for September hit a five-month high, while five-year inflation expectations in the survey fell to 2.8%, the lowest in over a year.

FedEx CEO sees global recession ahead

Despite the evidence of a resilient U.S. consumer, a gloomy outlook on the global economy from shipping giant FedEx sent stocks sharply lower at the end of the week. After the market closed on Thursday, FedEx announced that it was pulling its earnings guidance for fiscal year 2023 due to “expectations for a continued volatile operating environment,” and its new CEO told a CNBC interviewer that he expected a global recession. FedEx stock fell by about 21% in trading on Friday.

U.S. Treasury yields continued to push higher, particularly on short- and intermediate-term maturities, as disappointing inflation data and a further decline in jobless claims cemented investors’ expectations for a minimum 0.75-percentage-point interest rate hike at the Federal Reserve’s next meeting. According to our traders, federal funds futures markets by midweek were pricing in a roughly one-third chance of a one-percentage-point Fed rate hike, though this probability declined somewhat by Friday morning. Amid expectations for a continuation of rapid monetary tightening, the two-year U.S. Treasury note yield traded around 3.90% early Friday morning—its highest level in nearly 15 years.

The broad municipal bond market traded lower, with persistent outflows from mutual funds industrywide impeding market performance. While selling pressures in the secondary market continued, T. Rowe Price traders observed strong bidding activity for several primary market deals, reflecting issuer concessions to meet buyer demand in the rising rate environment.

High yield bond market supported by inflows

Rising U.S. Treasury yields weighed on the U.S. investment-grade (IG) corporate bond sector, but corporates proved resilient after the CPI release. Higher yields also somewhat drove demand for IG corporate bonds. Our traders reported that the high yield bond market advanced as the week began, with investors mostly focused on sourcing BB and B rated bonds amid positive flows to the asset class. Despite limited new issuance, our traders noted that a few large merger and buyout deals are still expected later in the month. 

Bank loans rallied ahead of the CPI print as investors seemed to consider the possibility that we may have passed peak inflation. The limited primary calendar helped drive the positive momentum. However, the loan market turned lower along with broader risk markets following the hotter-than-anticipated inflation reading.

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

Shares in Europe pulled back amid signs of a deepening economic slowdown. In local currency terms, the pan-European STOXX Europe 600 Index ended 2.89% lower. Germany’s DAX Index slid 2.65%, France’s CAC 40 Index lost 2.17%, and the UK’s FTSE 100 Index declined 1.56%. Italy’s FTSE MIB Index finished roughly flat.

The British pound depreciated against the U.S. dollar, sinking to levels last hit in 1985. Fears of a looming recession contributed to this downward pressure, along with concerns that the Bank of England might deliver an interest rate hike of 0.5 percentage point at its next meeting, a smaller increase than the U.S. Federal Reserve is expected to announce, according to T. Rowe Price traders.

Yields on 10-year German government debt rose, as hawkish comments from European Central Bank policymakers raised expectations of bigger rate increases. Peripheral eurozone government bonds broadly tracked core markets. British 10-year government bond yields increased to their highest levels in more than a decade.

UK data signal economy may be stalling as inflation stays high

Inflation in the UK came in at 9.9% in August. This reading marked a decline from the 10.1% registered in July. Falling fuel prices drove this slowdown. However, core inflation, which excludes food and energy costs, quickened to 6.3% from 6.2%. Producer output (factory gate) prices were up 16.1% from levels a year ago—still elevated but an improvement from 17.1% in July.

Gross domestic product (GDP) expanded 0.2% in July, after a drop of 0.6% in June, when there were two days of public holidays.

The jobless rate fell to 3.6% in the quarter through July, the lowest level since 1974. However, the number of people in employment also shrank, a sign the labor market might be losing momentum. Still, pay grew more than expected in the three months ending in July due to a shortage of job applications, with wages, including bonuses, rising 5.5% on a year earlier.

Official retail sales figures for August confirmed the slump in consumer confidence seen in recent surveys. Sales volumes dropped 1.6% sequentially—much more than the 0.5% drop expected by analysts—as sharply higher prices for energy, food, fuel, goods, and services appeared to discourage spending.

German business confidence slumps, while eurozone industry output drops

Economic sentiment in Germany was worse than expected in September due to worries about energy shortages and declines in incoming orders, industrial production, and exports. The ZEW economic research institute said its economic sentiment index fell to -61.9 points—the lowest level since October 2008.

Eurozone industrial production fell 2.3% sequentially in July due to soaring energy costs and supply chain bottlenecks. The decline was the biggest in more than two years and exceeded the 1.0% drop forecast by analysts. Production of capital goods fell the most.

EU to impose windfall taxes on energy companies

The European Commission published proposals that could raise up to EUR 140 billion to soften the impact of soaring energy costs. The measures include a windfall tax on fossil fuel company earnings, a cap on the revenue of non-gas power producers, and a reduction in electricity demand at peak times each month. 

Japan

Japan’s stock markets fell over the week, with the Nikkei 225 Index dropping 2.29% and the broader TOPIX Index declining 1.37%. The Japanese government announced that it will drop its COVID-related ban on individual tourists and remove its limit on daily international arrivals to the country. Trade data for August showed that Japan’s exports grew 22.1% from August 2021, building on a 19% annual increase in July. Japan’s top export market was the U.S.

Yen continues to weaken

The Japanese currency finished around JPY 143 against the U.S. dollar from about JPY 142 the prior week. Rumors circulated midweek that the Bank of Japan (BoJ) would intervene in currency markets to stem the yen’s slide against the U.S. dollar, but the central bank ended up taking no action. The Fed’s rapid rate hikes while the BoJ stands pat have helped drive the yen steadily lower against the greenback in 2022.

Japanese 10-year government bond yield hits BoJ’s upper limit

The 10-year Japanese government bond yield increased to 0.25% from 0.23% at the end of the previous week. The BoJ stepped into the market to purchase bonds at 0.25%, which is the upper limit of the yield range for the 10-year note under the central bank’s yield curve control policy. With the 10-year U.S. Treasury note yielding almost 3.45% at the end of the week, international investors have little incentive to own Japanese government debt, limiting trading.

China

China’s stock markets fell as currency weakness and downbeat property data overshadowed surprisingly strong factory output and retail sales indicators. The broad, capitalization-weighted Shanghai Composite Index tumbled 4.2%, and the blue chip CSI 300 Index, which tracks the largest listed companies in Shanghai and Shenzhen, sank 3.9% in its biggest weekly drop in two months, Reuters reported.

The People’s Bank of China drained liquidity from the banking system for the second straight month but held interest rates steady as it sought to ease selling pressure on the yuan resulting from a widening policy divergence with the Federal Reserve. China’s central bank has recently set a string of stronger-than-expected yuan fixings against the U.S. dollar and reduced banks’ foreign reserves requirement to stabilize the currency.

The Fed’s hawkish tightening stance has boosted the dollar this year, pressuring most emerging market currencies, while China’s surprise decision to lower key interest rates in August has accelerated the yuan’s slide. Late Friday, the yuan was trading at 7.0185 per dollar versus 6.9225 a week earlier, weakening past the psychologically key 7 per dollar level for the first time in two years. Both the onshore and offshore yuan fell to its lowest level since July 2020. The yield on the 10-year Chinese government bond rose to 2.692% from 2.663% a week ago, ahead of a potentially outsized U.S. rate hike this week.

On the economic front, China reported better-than-expected growth in factory output and retail sales last month. Industrial production rose 4.2% year on year in August, up from 3.8% in July, while retail sales jumped 5.4% year on year from July’s 2.7% growth. Fixed asset investment, another closely watched metric, rose a surprisingly strong 6.4% in August from a year earlier, up from July’s 3.6% increase. Unemployment rates for cities and young people both declined.

However, the property sector extended its slump. New home prices in 70 cities, excluding state-subsidized housing, fell in August for the 12th straight month, according to official data. New housing starts slumped 46% in August from a year ago compared with July’s 45% drop, reflecting a collapse in land sales and poor sentiment among property developers.

The property sector’s travails are one of several mounting headwinds facing China’s economy that have left many economists skeptical that it will reach Beijing’s growth target of about 5.5% this year. Economists in a recent Bloomberg survey forecast that China’s economy will expand 3.5% in 2022, which would mark the second-lowest annual growth in more than four decades.

Other Key Markets

Hungary

Investors in Hungarian assets were cautious this week amid media reports that the European Union’s (EU) “rule of law” dispute with Hungary could soon intensify. The European Commission is scheduled to meet on Sunday, September 18, and, as reported by Politico, is expected to propose suspending “a significant portion” of the EU’s funds budgeted for Hungary due to concerns about corruption. The EU has also expressed concerns for some time about other matters, including a lack of judicial independence and media freedom.

Adding pressure to the situation was news that the European Parliament voted to adopt an interim report in which Hungary was deemed to be “no longer a democracy” and that the government under Prime Minister Viktor Orban has been “turning the country into a hybrid regime of electoral autocracy.” However, there are expectations that EU officials will also acknowledge that Hungary has made some proposals to address some EU concerns and that, instead of a swift cutoff of funds, Hungary will be given time to resolve its dispute with the EU and avoid a worst-case scenario.

Brazil

Stocks in Brazil, as measured by the Bovespa Index, returned about -2.8%. T. Rowe Price sovereign analyst Richard Hall notes that GDP growth appears to have remained solid at the beginning of the third quarter. Service sector activity was better than expected, and momentum in the labor and the credit markets has stayed strong—impressive feats for an economy that has had significant interest rate increases for more than a year.

Although there was a decline in retail sales on a month over month basis, Hall notes that retail sales have been volatile since the onset of the pandemic and weakly correlated with consumption. Given that increases in social welfare payments and energy tax reductions are likely to provide a positive fiscal impulse in August and September, Hall does not expect to see a sharp economic slowdown prior to the general election in early October.