After the promising start to 2023 in January, markets were a little more circumspect in February. Fears grew that inflation might not come down as far and as fast as previously hoped. The leading cause for concern was the continued strength of labour markets, with unemployment at multi-year lows. The argument was that until the labour market cooled, inflationary pressures in the service sector would remain. Markets started to appreciate that central banks, led by the Federal Reserve, would need to raise interest rates higher and leave them there for longer. The US 10-Year Treasury yield is currently at 4.1 per cent, having fallen to 3.4 per cent on 31 January. Last October’s 4.25 per cent was the highest since December 2007.
Rising bond yields dampened the enthusiasm for equities. The endless discussion around whether the US will avoid recession did not help, nor does the maths. Increasing bond yields give US investors a straight choice: a risk-free (except for inflation) return of 4.1 per cent a year over 10 years or exposure to an expensive equity market with the risk of recession. The two-year Treasury gives a return closer to 5.0 per cent.
European equity markets outpaced the US. The FTSE MIB was up 3.0 per cent, the CAC 40 by 2.6 per cent, the DAX gained 1.6 per cent and the FTSE All-Share (TR) Index rose 1.5 per cent. Nasdaq was down 1.1 per cent, and the S&P 500 shed 2.6 per cent. Commodities had a tough time as markets fretted about global growth. Nickel fell 17.4 per cent, zinc fell 11.2 per cent, aluminium fell 10.7 per cent and copper was down 3.2 per cent. Crude oil was weak, with Brent crude down 2.8 per cent to $83.17 (£68.50) per barrel.