Investment Viewpoint: Markets advance as rate expectations steady

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Markets and macro insights with Bernard Swords, Chief Investment Officer

Key takeaways:

1. Equity markets made further modest progress, supported by improving sentiment around US interest rates and strong technology earnings.
2. US inflation data was broadly encouraging, reinforcing expectations that interest rates may not need to rise further.
3. Softer retail sales data point to some moderation in US activity, but we view this as contained rather than a sign of a significant slowdown.
4. Technology remains a key source of market support, with AI-related demand continuing to drive investment in data centres, cloud services and digital infrastructure.
5. We remain overweight equities and technology, while favouring shorter-duration bonds given ongoing inflation, geopolitical and energy market risks.

What key themes drove market performance last week?

• Financial markets were influenced by three key themes last week: expectations for US interest rates, strong earnings from technology companies, and the ongoing conflict in the Middle East. Equity markets remain under pressure due to the volatility in the energy markets.
• Investor sentiment towards US interest rates improved during the week following a series of economic data releases. Inflation data was generally encouraging, with US core consumer price inflation falling to 2.4% year-on-year, bringing it close to levels seen before the pandemic. While producer price inflation was somewhat firmer than expected, the overall picture suggested that inflationary pressures remain relatively contained. At the same time, softer economic data emerged from the consumer sector, with retail sales declining during the month. Combined with weaker labour market data released the previous week, this has reduced expectations that the US Federal Reserve will need to raise interest rates further.
• Technology stocks were another key driver of market performance. A number of companies with exposure to artificial intelligence reported strong earnings results, highlighting continued growth in demand for data centres and cloud computing services. This renewed investor enthusiasm for the sector and helped support broader equity market gains. The strength of earnings from technology companies continues to demonstrate how advances in artificial intelligence are driving investment and spending across the global economy.
• Geopolitical developments also remained in focus. The conflict in the Middle East continues to create uncertainty for financial markets, particularly through its impact on energy prices. Oil and refined fuel prices moved higher again during the week, with some refined products approaching their highest levels of the year. Rising energy costs have been a source of pressure for fixed income markets, as they raise concerns that inflation could prove more persistent and complicate the outlook for central bank policy globally.

What does recent economic data tell us about the outlook for the US economy?

• Recent economic data reinforces our close monitoring of the US economy. While weaker retail sales suggest some moderation in activity following a strong second quarter, we currently view this as a contained softening rather than the start of a significant slowdown. Our central expectation remains that both the US and global economies will continue to grow at an above-trend pace over the coming months.

What does this mean for our positioning?

• This outlook supports our position of maintaining an overweight allocation to equities. We believe the combination of continued economic growth, improving confidence around interest rates, and solid corporate earnings should remain supportive for stock markets.
• Within fixed income, however, we continue to favour shorter-duration bonds. The uncertain path for inflation and interest rates, particularly given ongoing geopolitical tensions and energy market volatility, means we believe it is prudent to limit exposure to longer-term interest rate risk.
• Finally, the continued recovery in the technology sector is supportive of our investment strategy. We maintain an overweight position in the sector and remain positive on its prospects, reflecting our expectation that demand for artificial intelligence-related infrastructure, cloud services, and digital technologies will continue to drive strong earnings growth in the years ahead.

The week ahead: what to watch out for

This week we will get inflation data from the euro area and the main business surveys, the PMIs. From the US we will get the minutes of the last FOMC meeting and Industrial production.