Investment Viewpoint: Markets strengthen on improved geopolitical sentiment

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Markets and macro insights with Bernard Swords, Chief Investment Officer

Key takeaways

1. Markets ended the week on a stronger footing and is continuing as we start this week as it appears we are close to an agreement to end the Middle East conflict and reopen the Straits of Hormuz. The Brent oil price is down $10 a barrel to $83 over the last week.
2. The European Central Bank (ECB) raised interest rates and updated its outlook, while US inflation data was mixed but broadly encouraging.
3. Equity markets were modestly lower month-to-date, led by weakness in technology, communication services and consumer discretionary but post the weekend news we will be back into positive territory for the month with the new economy and cyclical sectors taking the lead.
4. Fixed income markets were quite stable but these will get a boost from declining oil prices.
5. We remain comfortable in our positioning, with the recent setback in technology and growth-oriented sectors viewed as a temporary pause rather than a turning point.

How did markets perform last week?

• Financial markets ended the week on a stronger footing, supported by improving sentiment around the potential for a better outcome in the Middle East. News over the weekend of the potential for a deal to be signed on Friday which will end the conflict and reopen the Stratis of Hormuz is a major positive development. It would remove a potential threat to the growth outlook for the global economy and should start easing some inflationary pressure.
• Equity markets, which had been weaker earlier in the week, finished slightly positive in euro terms, helped by a late recovery. Defensive sectors were the key drivers of performance over the week, reflecting a degree of ongoing caution among investors despite the improvement in sentiment. We expect market leadership to change from here.

What was the main policy development?

• The main policy development came from the ECB, which increased interest rates by a quarter of a percent, as widely expected.
• The ECB also updated its outlook, raising its inflation forecasts while lowering its expectations for economic growth over the next few years. Its projections suggest that underlying inflation may remain above its target level for some time.
• While the tone of the ECB’s communication was slightly less forceful than anticipated, it reinforced that future decisions will depend on incoming data, with the possibility of further rate increases still likely.

Economic data was relatively limited last week. What were the key releases?

• The most notable release came from the United States in the form of inflation figures. The signals were somewhat mixed but broadly encouraging.
• Core CPI inflation has dipped back below 3% on an annual basis, although it remains above the Federal Reserve’s 2% target. A particularly positive aspect was the continued decline in goods prices on a monthly basis, suggesting that earlier price pressures, including those related to tariffs, may now be easing.
• On the other hand, producer price data came in higher than expected, which can sometimes indicate future inflation pressures, although this does not always feed directly into consumer prices.
• Elsewhere growth data was slightly more encouraging. In the euro area retail sales fell 0.4% month-on-month in April, but prior months were revised sharply higher.
• For the first quarter retail sales growth was positive (+0.4%) versus the initial report of -0.5%. China’s trade data was also better than expected with both import and export growth well ahead of forecast. However much of the extra growth is in IT components following the international trend rather than something specific to China.

How have markets fared so far this month?

• Over the month to date, equity markets are modestly lower, down just over 1%. This has largely been driven by weakness in sectors such as technology, communication services and consumer discretionary.
• These areas had performed very strongly in the previous month, and the recent pullback appears to reflect a period of consolidation rather than any fundamental change in outlook.
• In contrast, more defensive sectors such as consumer staples, healthcare, utilities and property have led the market this month, recovering some of the ground they had previously lost.
• Fixed income markets have remained relatively stable, despite the recent increase in interest rates by the ECB. Yield curves remain quite flat, meaning that investors are not currently being rewarded significantly for extending the maturity of their bond holdings. As a result, we continue to favour shorter-duration positions within fixed income portfolios.

Economic data was relatively limited last week. What were the key releases?

• Overall, we remain comfortable with our investment strategy. The recent setback in technology and other growth-oriented sectors is viewed as a temporary pause following strong gains, rather than a shift in the broader trend. We would expect these sectors to regain leadership as the year progresses.
• Similarly, the recent strength in defensive sectors appears to be more of a catch-up after a period of underperformance, rather than the start of a sustained shift in market leadership. This underlines the importance of having balance between defensive and cyclical sectors at this stage of the cycle.

The week ahead: what to watch out for

This week will bring a range of important economic data releases. In the US, we will see figures for retail sales and industrial production, alongside inflation data including both consumer and producer prices. China will release inflation data, while the euro area will publish industrial production figures. Together, these releases should provide further insight into how current energy prices are affecting economic activity and inflation across the global economy.