Review of Markets over April 2024

April highlighted that persistent inflation remains a key risk and has the potential to upset the rally in risk assets.

April was a tough month for both equity and fixed income markets. A combination of hot US inflation data and a first quarter US GDP print that while weak on first-glance, showed resilient private demand, fuelled market fears that central banks will not ease monetary policy as quickly as previously hoped. Both stock and bond markets responded negatively with global bonds falling 2.5% over the month while developed market equities fell 3.7%. Conversely, higher commodity exposure and increased investor interest in low valued Chinese equities helped emerging market equities deliver positive returns of 0.5% over the month.

The changing interest rate environment was particularly visible in interest rate-sensitive sectors, such as small caps and REITS. In April, small caps ended the month down 5.1% and REITS down 6.3%, both significantly behind the overall large-cap market return.

Fixed income markets also suffered from the change in rate expectations. In April alone, markets priced out one and a half rate cuts in the US this year and the timing of the first cut was pushed further out. 2-year Treasury yields rose 40 basis points (bps) to 5.0%, while 10-year Treasury yields rose 47bps to 4.7%.

A resilient economic environment and the danger of escalation in the Middle East boosted commodity prices. The Bloomberg Commodities Index increased 2.7% in April, ending the month as the top performing major asset class. A combination of rising energy prices, and lower interest rate sensitivity also supported the value segment of the equity market, which outperformed the growth segment on a relative basis.

In a difficult month for the asset class, European equities outperformed their US counterparts. The eurozone’s flash composite PMI (purchasing managers’ index) rose to 51.4 in April, significantly above the December recessionary level of 47.6, while the UK’s composite PMI rose to an expansive 54. Improved growth prospects and inflation dynamics in the region were able to partially compensate for the headwinds of higher for longer interest rates and geopolitical risks.

The MSCI Europe ex-UK Index fell by only 1.5% in April, while UK equities, supported by the high share of energy and commodity companies, delivered positive total returns of 2.5% and ended the month as the top performing equity market.

The S&P 500 fell 4.1% over the month as valuations came under pressure from rising bond yields. The economic backdrop remains supportive to corporate earnings and the first quarter earnings season has seen companies broadly beat expectations, albeit against a low bar. Markets were, however, more willing than usual to punish companies that missed estimates as investors looked to see if earnings justified the last six months of valuation expansion.

Japanese equities gave up some of the gains that they had made over the last five months. Widening interest rate differentials between Japan and other developed market countries put downward pressure on the yen and increased investor concerns about the risk of imported inflation weakening domestic demand.

Eurozone inflation in April remained flat at 2.4% year on year, but the important services component fell 30bps to 3.7%. UK headline inflation also receded, although there are still concerns about the stickiness of some core components. A less inflationary environment, combined with the prospect of stable but slow growth in the euro area and UK, means that markets are more confident in the prospects for rate cuts from the European Central Bank (ECB) and Bank of England (BoE) than from the Federal Reserve. The first cut from the ECB is still expected over the summer though there are now only two cuts fully priced by year-end. The BoE is expected to cut a little later with the first cut now priced for September.

A less pronounced rise in euro bond yields led to the region’s outperformance. This trend was evident in credit markets, where spreads remained stable in April due to the constructive growth outlook and euro high yield was the only major sector to avoid negative returns. In sovereign bonds, euro sovereigns outperformed US Treasuries and UK Gilts. The relatively high-growth periphery in the eurozone also performed better than core Europe.

April highlighted that persistent inflation remains a key risk and has the potential to upset the rally in risk assets. In our opinion, it is therefore still important to consider both scenarios – recession and deflation, and persistent inflation – in the risk management of portfolios. High-quality bonds with medium to slightly longer maturities can again contribute to portfolio returns in the event of a deflationary growth shock. On the other hand, 2022 showed us that alternative investments such as infrastructure, and transport, provide the promise of good if inflation persists due to their low correlation with bond and equity markets.

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