Investors were expecting quarter-point interest rate hikes from the US Federal Reserve and European Central Bank (ECB) in early May. They got them, along with the collapse of another American regional bank, a warning from Treasury Secretary Janet Yellen that the US may not be able to pay its bills in June if the debt ceiling standoff persists and more violent protests against pension reform in France.
In the face of this uncertainty, and the unwillingness of major Western central banks to suspend the battle against inflation, investors continued to cut risk, increase their exposure to China’s rebound story and steer cash into liquidity funds.
How much longer will the war in Ukraine go on? How much further will central banks go before they deem inflation contained? How much damage will the latest US debt ceiling standoff do? How widely will the benefits of China’s anticipated economic rebound be felt? What direction will Japanese monetary policy take?
Actions spoke louder – to equity investors – than words coming into February, with the fact that the latest interest rate hike by the US Federal Reserve was only 25 basis points, boosting flows to US Equity Funds and other groups despite the accompanying verbal warning that the battle against inflation is “not fully done.”
Evidence that inflation is falling and global growth is stalling gave EPFR-tracked Bond Funds a shot in the arm during the first full week of January. Ahead of December’s CPI number, which showed US inflation grew at a 13-month low of 6.45% in the final month of 2022, investors committed over $17 billion to all Bond Funds.
The first week of May ended with the US Federal Reserve raising its key interest rate by 50 basis points. Investors, who expected a hike of that magnitude but feared the Fed might opt for a 0.75% increase, spent most of the week taking defensive positions. They cut their exposure to emerging markets and high yield debt, technology stocks, alternative assets and real estate. Europe Equity and Bond Funds also experienced significant redemptions as Russia’s invasion of Ukraine grinds into its 12th week.
As key US indexes closed their books on a month that saw the Nasdaq record its biggest drop since October 2008, investors seeking to escape market volatility turned to cash and to Chinese equity. Flows into EPFR-tracked Money Market Funds hit a 27-week high during the fourth week of April while China Equity Funds recorded their 15th inflow in the 17-weeks year-to-date and their biggest since late January.
Investors surveying the investment landscape during the second week of April saw more thistles and dandelions than daffodils. Things in their field of view included US headline inflation hitting its highest level since 1981 and US mortgage rates their highest level since 2011, Sri Lanka defaulting on its foreign debt and Russia’s invasion of Ukraine stretching into its eighth week.
Hopes for an early resolution of the Russian invasion of Ukraine took a hit during the first week of 2Q22 as evidence of Russian war crimes came to light. So did hopes for a measured pace to US interest rate hikes after US Federal Reserve Vice Chair Lael Brainard stated that the Fed needs to pick up the pace of its monetary tightening.
Mixed earnings reports from the closely watched American technology sector, the European Central Bank (ECB) starting to talk the anti-inflation talk and oil prices hitting levels last seen in 2004 gave investors additional pause for thought going into February. Those investors, already staring down the barrel of multiple US interest rate hikes this year, stepped up their redemptions from Bond Funds and looked for alternatives to US equity without completely abandoning that asset class.