Markets jumped last week, especially those in the US where the Nasdaq was up almost 3%, for reasons that no-one can quite agree on. It may simply be because they had fallen considerably so far this year (what traders charmingly call a ‘Dead Cat Bounce’), or, somewhat linked to that, because of opportunistic retail bargain hunters’ buying on the dip’. If, however fundamentals were involved, it would have to be because the narrow odds of a soft-landing scenario in the US widened ever so slightly. Positive jobs data implied that the US economy is proving more resilient than expected while there were tentative signs that some inflationary pressures could also be rolling over - declining inflation and full employment is the goldilocks scenario that everyone is hoping for. Finally (and maybe worryingly), one of the most convincing explanations put forward was are turn of the “bad news is good news” inverted logic. Under this theory, central banks are about to tip the economy into a recession by continuing to increase interest rates while the economy is (presumably) already slowing, forcing them to reverse course later this year. And just like rising interest rates have been kryptonite to most equity markets, so is the prospect of lower rates acting as a booster.

Australian and Japanese markets were also up 2% or so despite the latter selling off on Friday after the assassination of Shinzo Abe, while European and Asian markets ended the week in slightly positive territory. Real estate markets finally halted the declines they have seen in recent weeks and ended flat while gold was the biggest loser. Metals and energy also continued to err on the side of recession with falls across the board, although this may also just reflect the extraordinary gains they have seen this year.

The biggest gainers at a stock level were the large tech stocks that have fallen the most this year including Apple, Microsoft, Nvidia, Facebook, Amazon and Tesla, which collectively pulled their respective sectors (IT, Communication Services, Consumer Discretionary) to the top of the league table for the week. This miniature replay of 2021 may feel out of place in 2022 but is actually not unique: we’ve seen similar bounces in early February, mid-March and end of May. Whether this one will be more durable than its predecessors very much depends on the possible explanations highlighted earlier: dead-cat-bounce/buying the dip: not durable, goldilocks or recession: this could be the start of something... If it’s any indication, the biggest detractor category was filled with energy companies (Chevron, Shell, ExxonMobil) suggesting that some parts of the market could be beginning to discount a recessionary scenario where demand for oil would drop sharply.

In Australia it was the banks that finally caught a bid, offsetting losses from materials companies. Market participants who associated rising/steady banks’ share prices in the first 5 months of the year with rising interest rates should maybe revise their playbook. The idea that higher rates would boost earnings via higher Net Interest Margins (the difference between the rate at which banks borrow in the short-term from depositors and that at which they lend to mortgage buyers) didn’t add up last week, as rate expectations dipped. Instead, it’s possible that the recession fears that hurt banks in June started to recede in an Australian context. This highlights the diverging paths of the local financial and material sectors: the first driven by local considerations and the second by global trends. (For more on that theme, take a look at this week’s video.)

Some of the local growth companies from disparate sectors like CSL, James Hardie, Aristocrat Leisure, Wesfarmers and Xero also bounced strongly having led the market down so far this year.  Amongst local institutional investors there is a sense that many of these companies had become overly expensive in the post-COVID crisis rebound but that the falls of this year put valuations back on a reasonable footing.

In this noisy environment arguably the clearest signals are emanating from bond markets. Government bond yields have become quite volatile in recent weeks falling back at the end of June and then rising again into the end of last week. These moves of 0.4-0.5% across the maturity spectrum represent considerable bond volatility but with a fairly defined range around 3% - 3.5% here and in the US. This volatility notwithstanding, the yields on long-term bonds remain elevated by the standard of the last few years, and consistent with long-term inflation rates in the 3%-4% range. That may very well turn out to be accurate, but any hint of a recession would considerably change this picture. It seems that, unlike what we saw in 2021, bonds and equity markets are not pricing in the same scenario, potentially favoring investors who could finally enjoy once again the benefits of diversification.  

Credit markets concurred with equities and added a hopeful note to the week, with spreads narrowing sharply, presumably along with diminished expectations of near-term corporate defaults.  This all adds to the sense that there is a lot of noise and that the market is eagerly awaiting a better sense of direction on both the economy and inflation, something it might get, for better or worse later this week with an important inflation print mid-week and the start of the US earnings season.