Since Thursday, June 8, the US market has experienced another trend reversal, as a result of which the “bearish” trends have aggravated. Since June 8, the market has lost more than 10%, since the beginning of the year – 23%. The fall of the S&P 500 in such a short period was the largest since the sell-off in March 2020, which was the peak of the pandemic.
The capitalization of the US stock market has fallen by $4 trillion since June 8, and by $10 trillion since the beginning of the year. The capitalization of the global stock market has fallen by more than $6 trillion since June 8, and by $16 trillion since the beginning of the year.
The global market is seeing sales of all key instruments, especially bonds, and highly speculative instruments, in particular bitcoin. This indicates that the market participant is trading with a lot of leverage, as well as a significant volume of option trading, which leads to margin calls.
US 10-year treasury bonds (TSBs) are trading near March 2010 levels (yielding above 3.3%), German Bunds are at 2014 levels (yielding above 1.6%, although they traded at a negative rate three months ago). The yield on Italian government bonds exceeds 4%. The ECB plans to develop a stabilization mechanism to tighten, to study the issue of raising the key rate from -0.4%. In Europe, the PIIGS countries (Portugal, Italy, Greece, Spain), the risk of a repeat of the 2010-2011 credit crisis is increasing.
Chinese market as a hedge against global volatility
The S&P 500 is already about 12% of our target of 3,400, the NASDAQ is 10.5% of our target of 9,800. The only asset that outperforms the market and has a good return is the Chinese market. Since June 8, when the US market dived down, the Chinese market “dipped” by only 3%, and since June 13, when the US market decline accelerated ahead of the Fed meeting on June 15, the Chinese market rose by 5-6%.
We previously wrote that the Chinese market could become an island of growth against the backdrop of increased volatility in the world due to low inflation, economic recovery and production after the lifting of quarantine in June, as well as due to the strategy of the Chinese Communist Party (CCP) to stimulate the stock market and the economy in anticipation of the the most important congress of the CPC over the past decades in October-November. The average growth potential of the Chinese market is 25-30% before the XX CPC Congress in the fourth quarter of 2022.
Inflation expectations will stifle the US market
The fall in the US market has one reason, which eventually bifurcates – another jump in consumer inflation in the US in May (the data was released on June 10) and expectations of a sharper increase in key rates that are already priced in, based on the implied rate at the end of the year (3.6 %). Such a target rules out a 25bp rate hike. and at least 50 b.p. at all subsequent meetings, including today’s.
In addition, the University of Michigan consumer sentiment index in June fell to its lowest level since the start of statistics in 1977.
The June value, 50 points, is well below 71 points, the lowest value since the start of the pandemic. Consumer sentiment in the US has deteriorated sharply since the beginning of the year amid sharp jumps in electricity and energy prices (gasoline prices in the US are expected to rise to $8 per gallon by August from $6 per gallon now and from $2.5 at the beginning of the year, before the start of the special operation) and consumer goods, especially used cars, housing, etc.
At the same time, we are seeing good economic performance in the industrial sector and in the labor market, where unemployment is already close to pre-pandemic levels, and the gap between the number of vacancies and the number of unemployed has renewed a record, although the growth of wages and the number of vacancies has clearly slowed since March 2022.
The consumer is obviously not satisfied and is used to counting on state support, low rates, and low inflation (three times less than the current one), which was observed from March 2020 to the third quarter of 2021. Since then, everything has changed dramatically, although there is clear progress in the economy . Consumer spending is channeling previously accumulated funds, which exceeded a record $4 trillion, but in relation to personal disposable income (after tax) they are at a 14-year low, i.e. are 4.4% as of the end of April.
Fed Rate Forecast
We believe that the Fed will not further tighten monetary policy given the current situation, as further sharp “crackdown” can hurt the economy and the consumer. So, for example, the mortgage lending rate in the United States has already reached a record 6%, for the first time since 2008.
To trigger the market crash of the past few days, the Fed needs not only to raise rates by 75 bp, but to raise the expected rate in the dot plot to 3.5% or more from the current 1.9% , as well as “toughen up” the rhetoric, which is very unlikely!
We expect the median Fed rate to be 2.65% in 2022 and 3.125% in 2023. We forecast US GDP growth of 2.8% in 2022 and 2.2% in 2023.
US key rate forecast, %
Source: ITI Capital, Bloomberg
Overnight interest rate swaps OIS USD, %
Source: ITI Capital, Bloomberg