A New Bull Market

U.S. equity markets entered a bull market last week. The S&P 500 index has increased 20% from its low in October, 2022. It has been almost 80 trading days since the index fell 2% or more. As the rally broadens into all sectors, small cap stocks outperformed their larger counterparts, while value shares outshone growth stocks. The market’s positive momentum continued into the current week, buoyed by moderate inflation data and the Fed’s decision to hold off on a rate hike during the June FOMC meeting.   

Last week’s economic calendar was light in the U.S. One notable economic data point was that jobless claims hit the highest level since October 2021, with weekly claims at 261,000, well above expectations. However, continuing claims fell back and hit the lowest level in almost four months.

Bank of Canada Raises Rates

Last Wednesday, the Bank of Canada surprised the market by announcing a quarter-point hike, bringing its overnight rate to a 22-year high of 4.75%. The bank has been on Pause after its January hike. The central bank identified strong consumer spending, a pick-up in housing activity, and a tight labor market as proof that excess demand is more persistent than anticipated. First-quarter GDP was up 3.1%, higher than the BOC forecast of 2.3%. In April, Inflation accelerated for the first time in ten months to 4.4%, raising concerns that higher rates are needed to achieve the target inflation of 2%. The money market has priced in another hike for July.

U.S. Inflation Update

Markets rallied following the May inflation report published this Tuesday. Both the headline and core Consumer Price Index (CPI) for May aligned with economists’ expectations. The CPI for all Urban Consumers increased 0.1% month-over-month and rose 4% year-over-year, which marked the smallest 12-month increase since March 2021. Core inflation, which excludes food and energy, rose by 0.4% in May, reflecting a 5.3% increase over the year.

Energy prices contributed most to the lower inflation number, particularly with oil and gas prices fell sharply. Energy services prices also declined, with both electricity and gas service prices dropping. The energy index declined 11.7% for the 12 months ending in May. On the other hand, shelter was once again the biggest contributor to the monthly increase, followed by used cars and trucks. Despite the recent cooling in house prices, the impact has yet to be reflected in the inflation report due to the lag effect.

FOMC Holds Rates Steady

This Wednesday, as widely anticipated, Fed officials unanimously voted to hold the Federal funds target rate within the current range of 5%-5.25%. During the subsequent press conference, Chairman Jerome Powell stated that nearly all policymakers believe it would be appropriate to raise rates “somewhat further” this year. Markets interpreted this stance as a hawkish pause, and predicting two more quarter-point rate hikes in the second half of the year. The median FOMC dot plot projects the rate to be 50bps higher by the end of this year, before settling at 4.375% next year.

Conclusion

High technology companies leveraging artificial intelligence have taken the lead in this year’s market gains. However, this trend could reverse if investors come to terms with the possibility of prolonged period of high interest rates. Previously, the futures market had priced in a rate cut as early as September, which is unlikely to happen based on current data. Looking ahead, rate decisions and key macroeconomic indicators will continue to move the market.

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