UK markets suffered heavy selling pressure this week, with the FTSE 100 Index falling by 2.5% to trade at an eight-week low of 7,570 points at the time of writing.
Market expectations of further interest rate rises soared this week, after official figures showed consumer price inflation was 8.7% in April, down from 10.1% in March, but significantly above the Bank of England’s forecast of 8.4%.
Despite its fall to single figures, inflation in the UK is now about double the equivalent US rate and significantly above that of the Eurozone. This resulted in the UK 10 year gilt yield soaring to over 4.3%, a level not seen since last year’s “mini” Budget crisis, when then-prime minister Liz Truss’s unfounded tax cuts wreaked havoc in financial markets.
This will put significant pressure on the Bank of England to raise interest rates aggressively beyond their current level of 4.5%. Investors are now pricing in UK rates peaking at about 5.3% by the end of the year.
Food price inflation was particularly concerning, remaining close to its 45-year peak at 19.1%, compared with 19.2% in March. Furthermore, core inflation surged to its highest level in 31 years in April to 6.8%, up from 6.2% the month before.
This was in contrast to expectations of a substantial drop in headline inflation, which had been widely anticipated due to the impact of factoring out energy price increases early last year. UK retail sales rose 0.5% in April, higher than the 0.3% growth forecast by economists polled by Reuters, after bad weather hit spending in March and helped by increased government benefits.
Commodity markets
In the commodity markets, Brent crude futures traded around $76 per barrel on Friday, pulling back from a rise earlier this week, amid easing concerns of additional output cuts from OPEC+.
Russian Deputy Prime Minister Alexander Novak said on Thursday that he expected no new steps from the OPEC+ group of oil producers at its meeting in Vienna on June 4th, after the group announced a significant output cut earlier this year. Novak also said that high US interest rates and a slower than expected Chinese economic recovery were holding back oil prices from rising further.
Meanwhile, data showed that US crude inventories unexpectedly declined by 12,456 million barrels last week, the largest drop in six months and defying expectations of a 0.775 million increase.
Gold traded around $1,950 an ounce on Friday to levels not seen in over two months, pressured by a rise in Treasury yields and the US dollar. Minutes from the Federal Open Market Committee revealed that some Federal Reserve officials saw the need for more rate hikes, while others anticipated that a deceleration in growth would eliminate the requirement for further tightening.
US equities
US equity futures were relatively flat on Friday, as investors cautiously awaited updates on the ongoing debt ceiling negotiations in Washington. In Thursday’s regular trading session The Dow Jones Industrial Average fell 0.11%, while the S&P 500 Index gained 0.88% and the Nasdaq Composite soared 1.71%.
The credit rating agency Fitch placed the US’s AAA rating on watch for a possible downgrade this week, as talks to resolve a looming fiscal crisis dragged on without a deal nearly a week before a possible default. While Fitch still expects a deal to be reached, it said the risks have risen that the government could miss payments on some of its obligations.
The warning came after White House and Republican negotiators met for the latest round of talks to reach an agreement that would raise the country’s borrowing limit before it runs out of cash to pay all its bills as early as June 1st. In response, the US Treasury said that the warning underscores the need for swift bipartisan action by Congress to raise or suspend the debt limit and avoid a manufactured crisis for the economy.
Both the White House and Republicans on Capitol Hill suggested talks were in a better place on Thursday, although nothing had been concluded.
Elsewhere, data published by the US Department of Labour showed on Thursday there were 229,000 initial jobless claims in the week ending May 20th, a slight increase from 225,000 the week before but well below market expectations of 245,000. The latest data showed the labour market in the US remains relatively robust, which could potentially result in upward pressure on wages and present an opportunity for the Federal Reserve to consider additional interest rate hikes to address inflation.
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