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Sell in May…you can say that again. What a rollercoaster month it has been, all for the wrong reasons. Spreads widened significantly as the Italian political saga took its toll on investor sentiment, with Italian assets leading the decline with the higher beta sectors following suit.
Apart from the political tensions, investors had mixed economic data to contend with. The PMI indices in the Eurozone came in much lower than expected, and this was also reflected in weaker PMIs in other counties. On the other hand, Eurozone HICP inflation increased markedly to 1.9% in May, up from 1.2% in April, exceeding market expectations. On the corporate side of things, whilst there have not been any major upsets in earnings releases, it is ever more apparent that growth in earnings is somewhat abating, across both sides of the Atlantic.
Add a stronger dollar to the equation, and investors exposed to those US companies which are highly dependent on exports might already begin to feel the jitters. It might be a bit too premature to throw in the towel and significantly reduce risk, but what is certain is that the strong momentum witnessed at the start of the year is clearly starting to fade.
The Eurozone economy however seems to have peaked in the last quarter of 2017, however ECB’s Draghi’s tone remained upbeat about the outlook for the Eurozone. Having said that, yields are expected to rise from current lows. For its part, the ECB is likely to remain cautious. Having said that, delaying the end of QE beyond December this year could spark controversy but is a scenario which cannot be ruled out at this stage. The situation is fluid and the ECB is expected to take cue from developments in Italy.
Many questions remained unanswered regarding Italy and other issues, and credit was unable to withstand market forces, succumbing to a significant widening in spreads, with Italian assets and financials leading the way. In fact, Italian bank’s debt and other peripheral bank bonds were amongst the worst hit. The flight to quality trade resulted in core European sovereigns being the winning asset for the month.
US assets, although not being immune to the market turmoil, fared well, yet are expected to remain susceptible to the movement in U.S. benchmark yields on the back of positive numbers from the economic front. May was indeed characterised by geopolitical fears, which in turn gave a boost to risk aversion, thereby pushing credit spreads markedly wider. Indeed, global market jitters, coupled with a stronger US dollar, has resulted in investor uneasiness within the emerging market space, causing EM assets to sell off significantly during the month.
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