Monthly Market Review: 10 Highlights

After a very difficult first half of 2022 for financial markets, stocks, bonds and cryptocurrencies rebounded strongly in July. Here are 10 stories to remember starting with a stunning start to summer.

Charles-Henri Monchaux, CIO and Valerie Noel, Head of Trading

1 – “Technical” recession?

Charles-Henri MonchauxWithin a few weeks, investors’ fears changed. Now they are more focused on the “R” recession than the “R” rates (interest rates). Flattening of Bond Curves, Collapse of Confidence Polls and 2nd GDP Indicatorsth quarter (published in July) heralds a very noticeable slowdown in the global economy.

The United States is also officially in a technical recession after two quarters of negative GDP growth. After falling 1.6% in the first three months of the year, US GDP fell 0.9% year-on-year in the second quarter as inventories and housing investment hurt growth.

2022.08.02.US GDP
US GDP fell in the second quarter due to falling demand
Source: Bloomberg, BEA.

In Europe, Germany is in “stagflation” (see next paragraph), while the rest of the continent has outperformed growth forecasts. Spain and Italy reported growth of 1% or more in the second quarter, avoiding (so far) a technical recession. However, the culmination of the energy crisis this winter portends difficult times for the entire European continent.

2 – Inflation hits record levels

Despite very clear signs of a slowdown in global economic growth, inflation continues to break records in most developed countries. In the US, inflation reached 9.1% in June, the highest level in 4 decades. Europe is also recording record inflation rates, in particular due to a sharp increase in energy prices and a rise in imported goods and services after the weakening of the euro. Germany is facing a “stagflation” situation: by 2022, the consensus now assumes very weak GDP growth (+1.5%) and very high inflation (7.6%).

2022.08.02.Inflation in Germany
Consensus Forecast of Real GDP Growth and Inflation in Germany in 2022
Source: Bloomberg.

3 – Monetary tightening continues

As part of its continued effort to curb inflation, the US Federal Reserve on the last Wednesday of the month raised its key rate by 75 basis points, which now ranges from 2.25% to 2.50%. This is the second consecutive 0.75% Fed rate hike and the fourth rate increase since the beginning of the year. Countries whose currencies are pegged to the dollar (example: Saudi Arabia) have followed suit.

The monetary tightening movement has taken on a global dimension. After the Bank of England, the Fed and the SNB, it is the turn of the European Central Bank (ECB) to join the “club” of central banks raising rates. This first tightening since 2011 was even higher than expected, with a 50 basis point increase from the originally planned 25 basis points.

Among major central banks, only Japan pursues an expansive monetary policy.

2022.08.02.CBR rates
Interest rates of different central banks
Source: Charlie Bilello.

4 – Earnings growth expectations revised down

One of the few “bright spots” of the first half of this year was the resilience of corporate earnings and the consensus upward revision of earnings growth expectations despite a challenging macroeconomic and geopolitical backdrop.

But that island of stability now appears to be in jeopardy as earnings growth expectations for S&P 500 companies are now facing their worst negative revisions since the 2020 coronavirus crisis.

It should be noted that these negative changes are much more severe in the United States than in Europe or Japan. The reason: the strength of the dollar, which accounts for approximately 40% of the total income of US companies. On the other hand, the rising dollar is a boost for European and Japanese companies, as 24% and 15% of their sales come from the United States, respectively.

2022.08.02.  Revision of the beneficiary's estimate
The ratio of revenue decline versus upward revision is the highest since 2020
Source: Bloomberg.

5 – “Recovery” of the stock markets

After a very poor first half of the year for equity markets, major U.S. and European indices recorded their best monthly performance since November 2020 in July. In the US, the Nasdaq rose 12.5% ​​while the S&P 500 fell. an increase of 9.3%.

How to explain such a rebound, despite fears of a recession, record inflation rates, multiple rate hikes by central banks, and a downward revision in income growth expectations?

Investors now seem to view the accumulation of bad news as good news for the markets. In other words, a very sharp slowdown in the global economy could force central banks to act in such a way that they put an end to monetary tightening very soon.

It should be noted that the superiority of the “growth” style over the “value” style occurs simultaneously with the fall in bond yields.

2022.08.02.Securities market
US Index Guidelines Monthly Implementation
Source: Bloomberg.

6. Lower bond yields and tighter credit spreads.

Despite raising interest rates by most central banks, bond markets performed very well in July. Fears of a recession or a sharp slowdown in the global economy led to a decline in the entire US Treasury yield curve during the month. The middle part (a 39 bps drop in 7-year yields) outperformed both the short part (a 7 bps drop in 2 years) and the long part (a 19 bps drop in 30-year yields).

The return of investors to risky assets has led to tighter credit spreads. The Investment Grade Bond Index (in US dollars) rose 4.2% for the month, while the High Yield Index (in US dollars) recorded an increase of 6.3%. The JP Morgan US Dollar Emerging Bond Index rose 3.1%. On the other hand, emerging bonds in local currency showed a slight decrease due to the strengthening of the dollar and the caution of investors in this segment after the default of Sri Lanka.

In Europe, the political crisis in Italy has widened the spread between Italian bond yields and German bond yields.

2022.08.02.Maturity US government bonds
Dynamics of various maturities of US Treasury bonds during the month
Source: Bloomberg, www.zerohedge.com

7 – Exceptional month for “multi-management”

The first half of 2022 turned out to be the worst in history for the so-called “60/40” portfolio, i.e. invested 60% in US stocks and 40% in dollar bonds. The recovery in the equity and bond markets in July led to impressive results for this type of portfolio. Actually it’s 2th the best monthly progress since March 2000 with an increase of 11.2% (the best performance dates back to April 2020). Note that despite this impressive rebound, the YTD 60/40 portfolio return (-10.7%) is still the worst in history (at this point in the year). Globally, the market capitalization of the equity and bond markets has grown by $7 trillion in the last two weeks of the month.

2022.08.02.Multi-portfolio performance
Cumulative Monthly Dynamics of the US Stock and Bond Markets
Source: Bloomberg, www.zerohedge.com

8 – Very strong correction in commodities

Commodities experienced a huge bull market between March 2020 (COVID low) and March 2022, with the Commodities Index tripling over that period. Between March and June this year, the asset class entered a phase of consolidation, driven by central bank tightening and the appreciation of the dollar. But in the past few weeks, investors have feared that liquidity withdrawals would have a dramatic impact on future demand for commodities, prompting a sharp correction in the S&P GSCI Commodities index. Industrial metals and agricultural goods showed the largest decline.

However, oil remains the most profitable asset since the beginning of the year with a 31% increase.

The good news, however, is that lower commodity prices should lead to less inflationary pressure in the coming months.

2022.08.02. Raw material prices
Goods returned to the same level as before the invasion of Ukraine
Source: businessinsider.com, Bloomberg.

9 – FX Market: Euro Parity Month

In July, the euro continued to weaken against the dollar, as well as against the Swiss franc. The single currency is now trading below parity against the Swiss franc (around 0.97 at the end of the month), despite the ECB rate hike. The euro briefly reached parity against the dollar before strengthening slightly at the end of the month.

There are many reasons for the weakness of the euro: Italian politics (the resignation of Mario Draghi), the positioning of a market that does not seem to have integrated all the bad news yet, but also and above all the high recession risks associated with the current energy crisis. Russian President Vladimir Putin is using natural gas exports to Europe as an economic weapon. The sharp drop in energy exports to Europe is causing an explosion in gas prices, as well as electricity prices, which are rising sharply across Europe, despite the fact that it is now the middle of summer. Record prices this winter will lead to electricity rationing, which will affect production tools, which will plunge the European economy into recession with negative consequences for the euro.

2022.08.02.Forex market
Natural gas futures due August 2022
Source: Daily Shot

10. Bitcoin has the best month since January 2021.

The recovery of risky assets also includes cryptocurrencies, whose total market capitalization has clearly exceeded a trillion dollars.

Bitcoin is up about 28% in July after hitting $24,000 at the very end of the month. It remains 48% lower since the beginning of the year.

As for Ethereum, it is once again trading around $1,700 and has recorded an increase of over 70% in July. Ethereum bounces even 100% from the June low, while the Ethereum blockchain will soon change its mode of operation with an event called the Merger.

It should be noted that Bitcoin and Ethereum benefited from the mass liquidation of “short” positions at the end of the month, which led to forced buying by speculators who are in the red.

2022.08.02.Bitcoin
Dynamics of some cryptocurrencies in July
Source: Bloomberg, www.zerohedge.com

A beautiful end to summer!