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Strongest first-half market correction since 1970: July 2022 Market Commentary

06 July 2022

MARKET CONTEXT: Strongest first-half market correction since 1970

Global Macro:

Three global concerns for market assets: the 3 Rs.

1. Risk of escalation of the Russia-Ukraine war

2. Rising interest Rates from central banks to combat rampant inflation

On June 30th, top central bankers met in Sintra, Portugal at the ECB Forum. The outcome was the acknowledgement of three facts: first, the low inflation era is over; second, bringing down inflation in Western economies from almost 10% to the target level of 2% will be costly in terms of growth; third, commodity and food prices are bound to stay elevated due to the “structural legacy” from Covid and the ongoing war in Ukraine.

3. Recession fears

Slowing global manufacturing growth, supply chain disruptions following Russia's invasion of Ukraine, and the highest inflation in years have triggered recession fears among investors, which materialized in the worst first-half correction since 1970 for most equity markets.

However, despite these recession fears, China’s recovery continues with economic activities rebounding firmly in June. The Purchasing Managers’ Index (PMI) for manufacturing and services recorded its fastest expansion in 13 months at 53 (PMI > 50  = economic expansion), while Chinese cities are emerging from lockdowns.

On July 1st in Hong Kong, President Xi Jinping delivered his 25th anniversary speech celebrating the Hong Kong handover to China. He stated that the city will continue to enjoy its unique status and remain free and open, which underlies the objective for Hong Kong to remain the number one international hub in Asia and the conduit for the increasing RMB adoption for international commerce.

Financial Markets:

Equity: Most equity markets suffered significant losses in June (S&P 500 -8.9%; Nasdaq -9.3%; Euro Stoxx 50 -10.2%), while Chinese equities posted solid gains (HSCEI +3.4%), underpinned by the end of Shanghai and Beijing lockdowns and expectations of a tech crackdown easing. Fixed Income: The 10-year US yield rose 35bps in June to 3.09%, which contributed to the sell-off in Emerging Market government bonds (-7.7% in USD; -4.2% in local currencies) and High-yield corporate bonds (-7.2% in USD and -7.1% in EUR). Currencies: With respect to USD: EUR -3.0%, AUD -4.1%; CNY -0.6%; safe-haven JPY -6.3%, CHF +0.1%. Commodities: Gold further decreased 2.3% in June while oil prices fell 8.7% on recession fears.

What to expect for the second half of the year:

Global markets, stocks, bonds, currencies and commodity valuations will be driven by the 3Rs expectations: anticipation of the war Risk, central banks’ actions on interest Rates and realized GDP growth by year end, and either slower growth or Recession. As market participants and central banks have already taken into account many risk scenarios and bad news, we expect a “soft landing” of the economy over the next 12 months. Strong stimulus from governments shall mitigate the recession risk and reduce its duration if it happens. We expect the recession risk to be local to Europe rather than global as the war and commodity price surge are dramatically impacting the European economy more than any other region.