Equity Markets: Reflecting on the First Half and Looking Ahead to the Second

The last six months have been an eventful one for equity markets in general with many of the questions that we were faced with at the start of the year, still just as relevant now.

The main question was whether the rebound that started from the lows back in October was simply part of a bear market rally, or whether it was the beginning of a move towards new record highs.

Others included how many more rate hikes could we expect to see, and when would rates start to come down again, with markets pricing in rate cuts in the second part of 2023.

We got the answer to the main question with new record highs for the FTSE100, CAC 40 and the DAX, while US markets also managed to continue their strong performance, breaking out of their own downtrend from their 2021 peaks, during February, shrugging off a March wobble in the process.

Despite the records highs being set by European markets in the first half of this year, one index above all the others has disappointed, that being the FTSE100, which managed to get off to a flier in the early part of the year, hitting a record high above 8,000, before sinking to a six-month low in the space of 4 weeks. Of all the major indices its greater weighting towards banks, and commodities has seen it underperform, largely due to the weakness of the rebound in the Chinese economy, and the fall in oil and gas prices.

The FTSE100 aside, what has been surprising is that, aside from a couple of exceptions, the stock market gains of the last few months have given few signs of disappearing despite interest rates that are significantly higher than they were at the start of the year, with little sign that they will come down any time soon.

That fact alone is a significant shift from where we were at the start of the year, where we had bond markets pricing in rate cuts as soon as Q3 of this year. This always came across as wishful thinking on the markets part, however we've shifted to the other side of the spectrum of market pricing in the prospect of another 100bps of rate hikes by the Bank of England by the end of the year.

In the same way that rate cuts by year end proved to be mispriced, at the start of the year, this pricing by the market could well go the same way.

One thing that has come as a surprise is how resilient equity markets have been in the face of a much sharper rise in 2-year yields from where we were in early January.

What's more there is no sign that central banks are in any mood to slow down their pace of rate hikes, something that is very much reflected in the way 2-year yields have pushed higher this year.

US 2-year yields are higher by almost 50bps year to date, UK 2-year gilt yields by an astonishing 169bps, and German 2-year yields by 43bps.

This big jump in UK yields has seen the pound outperform against its peers, rising by 5% against the US dollar, and by as much as 13.5% against the Japanese yen.

While financial markets try to determine how many more rate hikes are coming, the next question is how long they will have to stay at current levels, and what happens when the deflation that is already being seen in the PPI numbers starts to manifest itself in the core inflation numbers.

For now, there is little evidence of that happening with the focus this week more on the continued divergence between manufacturing and the services sector in the form of the PMI numbers, as well as the US payrolls numbers on Friday.

Today's manufacturing PMIs are set to confirm the weak nature of this part of the global economy, with Spain, Italy, France, and Germany PMIs all forecast to slip back to 47.9, 45.3, 45.5, and 41 respectively. UK and US are also expected to remain soft at 46.2 and 46.3 respectively, while the US ISM manufacturing survey, is also forecast to remain below 50, at 47.2, with prices paid at 44.

Markets are already pricing in further rate hikes this month from the Federal Reserve, as well as the ECB, followed by the Bank of England in August, however the bigger question is what comes after these. One suspects we may not see many more after these hikes, however for now markets seem reluctant to come to that conclusion.

That said as we look towards H2 the bigger question is having seen such a positive H1, is there anything left in the tank, to build on those gains over the course of the rest of the year?

A decent Asia session looks set to translate into a positive start for European markets although current unrest in France is likely to prompt questions about economic activity there in the coming weeks.

EUR/USD – finding support at the 1.0830/40 area and 50-day SMA for now, with resistance remaining at the 1.1000 area. A break below the lows last week opens the way for a potential move towards 1.0780.

GBP/USD – still holding above the 50-day SMA at 1.2540, as well as trend line support from the March lows. If this holds, the bias remains for a move back to the 1.3000 area. Currently have resistance at 1.2770.

EUR/GBP – capped last week just below resistance at the 50-day SMA which is now at 0.8663. Behind that we have 0.8720. Support comes in at the 0.8570/80 area.

USD/JPY – saw a key reversal day after popping above 145.00 last week. We currently have support at the 143.80 area, with a break below targeting the 142.50 area. Above 145.20 opens up 147.50.

FTSE100 is expected to open 32 points higher at 7,563

DAX is expected to open 50 points higher at 16,198

CAC40 is expected to open 30 points higher at 7,430