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Quarter two of 2022: what next for markets?

10 May 2022

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In a nutshell

  • After a turbulent start to the year, markets still face many challenges across the second quarter of 2022.
  • It’s predicted that inflation will continue to rise. As a result of this, central banks are beginning to raise interest rates to tackle rising prices.
  • There’s no doubt that there is a lot for markets to swallow at the moment. But as the last two years have shown, uncertainty in markets is nothing new.
  • It’s important to stay committed to your long-term goals and hold a diversified investment portfolio.

As you’re reading this we find ourselves mid-way through quarter two of 2022. And with such a turbulent start to the year, you’re probably thinking what next for markets?

To put it bluntly, there’s no shortage of headwinds for the coming months. And many of these extend on from quarter one.

The war in Ukraine still rages on, with no resolution in sight. Apart from the human suffering, there is also a continued impact on energy and other financial markets. Sanctions will continue, the cost of oil and gas is expected to remain high, and the economies most exposed in Europe may struggle to grow. Inflation continues to surge to decade highs and central banks are beginning to tighten their belts to try and combat rising prices.

All in all, it’s a lot for markets and investors to swallow. In May’s Skipton Insight we take a look at what factors could be at play over the coming months, what it might mean for markets and what the best approach could be for you as an investor.

Change in tone from the US Federal Reserve

It was around December last year that the US Federal Reserve (Fed) stopped using the term ‘transitionary’ to refer to inflation. Its main aim was a gradual return to normal – meaning they steadily planned to get interest rates back to around 2.0%.

But the cost of everyday items has continued to rise rapidly around the world. As a result the Fed’s approach has shifted from a gradual return to normal, to more of a sudden and sharp approach to monetary policy. It’s safe to say expectations from markets around interest rate rises has amplified in recent weeks.

By June, there’s a 90% chance that US interest rates will be 1.5%. For the end of the year there’s a 75% chance rates will be up at 3%, according to Fidelity.

Towards the end of April markets fell as Fed Chair Jerome Powell stated that the pace of rate rises must increase to fight inflation. Here in the UK we could also see rates increased once again this month. The European Central Bank is carrying on with its bond buying and ultra-low interest rates, despite substantial inflation. However talk of tightening is cranking up, and a rise is expected by the end of the year.

Economists knew that inflation would be a problem going into 2021, the war has increased its momentum leaving central banks with a very tricky task on their hands. It will be a key factor for markets in coming months: central banks may well need to tighten policy enough to ensure inflation falls, but not too much that economies stall.

Global markets worry over Covid rates in China

News from the world’s leading emerging market economy hasn’t been overly positive of late. In April the amount of Covid infections in China rose more than threefold to 15 cases per million people.

Shanghai – the country’s commercial and financial hub - remains in lockdown over a month after it was closed in a bid to contain the worst Covid outbreak in two years.

China’s zero-covid strategy means it aims to stop the spread of the virus as quickly as possible, using tough measures such as localised lockdowns.

To add to the trouble, authorities in Beijing have put mass testing in place in one area following a small outbreak of cases. There are concerns the capital could follow Shanghai by enforcing a lockdown to contain the spread.

Beijing on its own contributes to about 3.5% of China’s GDP, while Shanghai contributes around 4%. The economy would take a big knock if both cities were to be locked down at the same time.

More than two years into the pandemic and Covid is still impacting financial markets. The prospect of China’s capital city being put into a full lockdown has unnerved investors worldwide, causing falls across global markets.

China’s efforts to stick to its zero-Covid strategy could mean further lockdowns, disrupting global supply chains over the coming months, and adding to inflation and disrupting global economic growth.

Positives to be found

The US earnings seasons – where a large number of publicly traded companies release their quarterly earnings reports – is well underway.

With investor sentiment and market valuations in retreat, the pressure is on corporate earnings to keep the market’s head above water.

So far, so good.

A week into reports and with around 100 of the 500 big US companies having reported, 80% are beating expectations. As it stands, analysts expect earnings to grow around 11% for the year as a whole.

All in all, the outlook for earnings is mixed but leaning more towards the positive side.

The backdrop is far from perfect, but when is it?

It’s a complicated background for markets to comprehend. It would have therefore been unrealistic not to expect a pullback across certain assets and sectors.

Kieran Ellis, Skipton’s Technical Research Specialist

Economies and markets have had central bank support to rely on ever since the global financial crisis in 2008, and in particular since the pandemic in 2020. By and large, this policy has been very successful, however it’s not something that’s sustainable. At some point it needs to be reined in.

Kieran Ellis – Skipton’s Technical Research Specialist

Kieran continues, “We were at the beginning of this process, but it’s been further complicated by the outbreak of war. The invasion in Ukraine has placed more pressure on price rises, and further heightens the risk that economies could stall if inflation is tackled too aggressively with interest rate rises and reducing quantitative easing.

“At the moment, sentiment is being driven from multiple angles. This is causing uncertainty, asset classes to act unconventionally, and a wide differential of performance between regions. But as we always stress, uncertainty in markets is nothing new. You only need to take a look at the past couple of years. That’s why it’s so important to maintain a long-term vision with a diversified approach to navigate through this uncertain period.”

Economic and market conditions experienced in the past may not be repeated in the future. The opinions and analysis provided are for information only and do not constitute financial advice.

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