Inflation print saves a difficult week

The CIO office’s view of the week ahead.

Weaker-than-expected core US inflation in April helped equities last week. When one remembers that fears of rising inflation, especially wage inflation, were behind the spike in bond yields and then in equity market volatility earlier this year, one understands why the latest data were greeted positively by markets. Successful auctions for 10-year and 30-year Treasuries last week helped too. Overall, subdued inflation in the US and a relaxation of bond market tensions were enough to reassure markets that the Fed is not behind the curve when it comes to policy tightening and that the current growth cycle still has legs.

Such a prospect, and the recent retreat in valuations to 2016 levels, justifies optimism about equities. But markets still face the inscrutability of President Trump. The latest worries are centered on his unilateral withdrawal from the Iranian nuclear deal, much to the displeasure of the European powers. The EU and the US are already heading into a trade conflict, with exemptions from a new 25% tariff on steel imports for Washington’s allies due to expire on June 1. Might the US offer an olive branch to the Europeans in return for a tougher stance on Iran? Similar thinking might be behind Trump’s promise to put Chinese telecoms giant ZTE “back into business, fast”— just days after a move to ban American companies from selling components to ZTE because of its links to North Korea and Iran. The geopolitical climate could remain fraught if the Europeans and Chinese refuse to concede on this point.

In Italy, a populist coalition government is taking shape that promises to defy Brussels on economic policy. The coalition partners have somewhat moderated their eurosceptic rhetoric of late, and markets should be relatively assured by the role that the non-party Italian president, Sergio Mattarella, will play in the appointment of the prime minister and finance minister. But the populists’ fiscal plans are a reason to remain underweight European government bonds in general.

 

Cesar Perez Ruiz,

Chief Investment Officer & Head of Investments, Pictet Wealth Management

 

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