Hi, and welcome to PIGM’s Weekly Market Commentary for June 21, 2022. I'm Matt Dingee from the Strategic Investment Research Group or SIRG. SIRG is part of PIGM, the asset management division of Prudential Financial. 

The ongoing hawkish shift by global central banks in the face of surging inflation fueled a renewed bout of risk off sentiment last week. As a result, the S&P 500 Index fell more than 5% for the second straight week on concerns that Fed rate hikes will ultimately tip the US economy into a recession. 

The S&P 500 is now down 23% from its January 3rd peak officially putting the index in bear market territory. In fixed income, it was a volatile week for treasury yields as markets reacted to central bank developments with the 10 year rising at modest 8 basis points to close at 3.24%. With yield edging higher, investment grade bonds declined 0.92% as measured by the Bloomberg Aggregate Bond Index. Riskier high yield bonds struggled along with equities as credit spreads widened on recession fears. 

In terms of central bank developments that drove markets last week. On Wednesday, the FOMC decided to raise rates by 75 basis points, the largest increase in 28 years. Expectations have ramped up ahead of the meeting telegraphed by the Fed in a Wall Street Journal article on Monday, which prompted a rise in shorter term government bond yields. Ultimately, policymakers felt that the prior week's upside CPI surprise in increase in consumer inflation expectations warranted more aggressive action than the 50 basis point hike previously telegraphed. 

The accompanying statement of economic projections or the so-called dot plot and the post meeting press conference continued the hawkish tone with Chair Powell, indicating resolved to get inflation back down towards the Feds 2% target. Powell also noted that while 75 basis point hikes are not intended to be common, either a 50 or 75 basis point hike is likely for the July meeting. 

We also saw the Bank of England hike rates by 25 basis points, the 5th consecutive increase. While the committee held back from a larger 50 basis point increase, they strengthen their forward guidance by hinting that rate hikes are likely to continue as they find themselves in a difficult situation with rising fuel and food prices taking a toll on the UK consumer. 

Also, the Swiss National Bank unexpectedly raised rates by 50 basis points, its first policy rate hikes since 2007. Swiss CPI has been running lower than the eurozone, but they were looking to prevent inflationary pressures from spreading more broadly to goods and services in Switzerland.  

The Bank of Japan bucking the trend as a lone dove, cut rates on hold to support its economic recovery given lower inflation relative to the US and Europe. Although with the recent rise in global yields, it has become increasingly difficult for the BOJ to maintain its yield curve control policy of keeping the 10 year Japan government bond yield below its ceiling. Despite the pressure, Governor Kuroda indicated that they have no plans to increase the cap. 

Lastly, the European Central Bank held an emergency meeting of its Governing Council last week. The meeting was to address the fragmentation risk of rate hikes on more heavily indebted peripheral sovereigns. As Italian and Spanish yields surged relative to Germany after the ECB recently announced plans to start raising rates. As a result, the ECB promised flexibility in how they reinvest redemptions from the central banks bond buying program, and will accelerate work on new tools to address fragmentation risks. The plan was met with some skepticism given a lack of details and whether it went far enough to address the issue. 

In terms of key economic releases, there was some evidence that growth continues to slow at the margin and supply chain pressures may have stopped getting worse, but no incremental data, suggesting that the Fed is likely to back off from its more hawkish stance. 

For instance, retail sales fell in May for the first time since December, and with April’s print revised lower, signs are forming that surging prices are hitting consumer spending. Although the drop in the headline number was heavily impacted by falling auto sales, some of which may reflect supply chain issues rather than softening demand. 

Ex autos in retail sales are up 0.5% on a month over month basis which was less than expected, but a small increase from April’s downwardly revised print nonetheless. Weakness in big ticket items such as furniture, electronics and appliances were offset somewhat by a 4% increase in gas station sales. 

The Empire State in Philadelphia Fed Manufacturing Indices for June and Industrial Production for May continue to indicate that manufacturing demand may be softening, but there are some signs that supply chain pressures may be starting to ease at the margin. 

Also, the National Association of Home Builders Housing Market Index for June and building permits and housing starts for May missed expectations and declined from the prior period as sharply rising mortgage rates have been cooling housing market activity. 

As for mortgage rates, the 30 year surge to 5.78% according to Freddie Mac, its highest level since 2008, and the largest week over week change since 1987. And lastly, the Producer Price Index remained elevated in May, rising 80 basis points, which was in line with expectations. The high headline number was boosted by surging energy prices, while food prices were flat. Core PPI was also up a solid 50 basis points in another sign of ongoing inflationary pressures. Ultimately, nothing in the report takes any pressure off the Fed.  

Turning to this week, we'll get more incremental data on economic activity for June with the preliminary readings of the IHS markets PMI for the US and euro area in the Kansas City Fed Manufacturing Index as investors look for signs of softening demand and easing of inflationary pressures. We’ll also get additional insight into the extent of the housing market slowdown with new and existing home sales in the US. 

May CPI data in the UK and Canada will also be released. Lastly, there are a number of speaking engagements scheduled for Fed officials highlighted by Chair Powell's semiannual monetary policy report to Congress, where investors will be looking for any incremental clues regarding the future path of Fed rate hikes. Have a great week and we'll speak again next Monday.