Overall Market Summary:
Global shares gained in the quarter, led by developed markets, particularly the US, while emerging markets lagged. Enthusiasm for artificial intelligence boosted technology stocks. Major central banks raised interest rates, although the US Federal Reserve paused in June. Government bond yields rose, indicating falling prices.
United States:
US equities ended the quarter higher, with most gains in June. The advance occurred amid moderating inflation and signs of a resilient US economy despite higher interest rates. Q1 GDP growth was revised to 2% (annualized), up from a previous estimate of 1.3%.
The Federal Reserve raised interest rates by 25 basis points (bps) in May but held rates steady in June, signaling a "hawkish pause." The rate projections indicated two further increases in 2023.
US inflation (CPI) declined to 0.1% month-on-month in May from 0.4% in April, with energy costs continuing to drop. This lowered the annual rate to 4.0%, below the expected 4.1%. The US unemployment rate increased to 3.7% in May from 3.4%, a larger than expected rise, though the labor market remains tight.
Investor caution arose around US debt ceiling concerns early in the quarter. However, Congress approved a debt ceiling suspension in early June, including spending concessions with minimal impact on economic growth.
The information technology sector led the stock market advance, driven by AI-related enthusiasm, which boosted chipmakers. The consumer discretionary and communication services sectors also performed well, while energy and utilities lagged.
Europe:
Eurozone shares gained in Q2, led by the financials and IT sectors. Energy and communication services underperformed.
The IT sector benefited from strong sales projections from US chipmakers, highlighting AI growth potential. The Dutch government announced that high-end chip manufacturing machines would require a license for overseas shipment, potentially reducing exports to China. Among financials, banks outperformed due to strong near-term earnings expectations.
The European Central Bank (ECB) raised interest rates twice, bringing the main refinancing rate to 4.0%. Headline inflation declined to 5.5% in June from 6.1% in May, while core inflation edged up to 5.4% from 5.3%.
Data indicated the eurozone experienced a mild recession over the winter, with GDP declines of -0.1% in both Q4 2022 and Q1 2023. Forward-looking indicators suggested slowing economic momentum, with the flash eurozone composite PMI falling to 50.3 in June from 52.8 in May.
United Kingdom:
UK equities fell over the quarter, with large diversified energy and basic materials groups being the most significant detractors due to broad-based commodity price weakness and concerns about the Chinese economy. Sterling strength also weighed on these sectors and other significant US dollar earners like consumer staples.
Domestically focused areas underperformed as the Bank of England (BoE) raised rates twice, including a 0.5 percentage point increase in June after stronger-than-expected job market data, wage growth, and core inflation. This led to a sharp sell-off in UK gilts (rising yields).
Gilt yields, which influence mortgage pricing, approached levels last seen during the "mini Budget" crisis of autumn 2022, weighing on domestically focused areas like housebuilders. Following the June rate hike, longer-dated gilt yields initially fell, suggesting increased investor confidence in the BoE's ability to control inflation, albeit potentially triggering a recession.
Japan:
Japanese shares saw strong momentum in Q2, with the TOPIX Total Return index rising by 14.4% in local terms. The yen weakened further against sterling and the US dollar, reducing foreign currency denominated returns from the Japanese equity market.
The Nikkei reached its highest level in 33 years, driven by continuous foreign investor buying since April, expectations of corporate governance reforms, and structural shifts in the Japanese economy. Yen weakness and strength in the US market further supported a risk-on mode.
The Bank of Japan (BoJ) maintained its dovish stance under new governor Kazuo Ueda, with no policy changes in April and June. Despite concerns about inflation and wage growth, macroeconomic figures showed solid progress.
Asia (excluding Japan):
Asia ex Japan equities recorded a negative performance in Q2. Mainland China, Malaysia, and Thailand were the worst-performing markets, while India, South Korea, and Taiwan gained.
Chinese equities declined sharply as the post-Covid economic rebound cooled, with slowing factory output due to weak consumer spending and export demand. Hong Kong shares also fell.
India saw strong gains driven by foreign inflows, steady earnings, and positive economic data. Taiwan and South Korea benefited from gains in technology stocks, particularly AI-related shares.
Emerging Markets:
Emerging market (EM) equities delivered modest gains in Q2, underperforming developed markets due to US-China tensions and concerns over China's slow recovery. US debt ceiling uncertainty also weighed on sentiment, though resolved in early June.
Hungary, Poland, and Greece were the top-performing markets, with central European markets anticipating rate cuts as inflation eased. Greece's ruling New Democracy party's election win supported market-friendly policies.
Brazil performed well amid easing fiscal concerns, optimism about rate cuts, and a strong Q1 GDP print. India also gained on improved macroeconomic data and ongoing accommodative monetary policy.
Colombia, the UAE, Peru, Saudi Arabia, and Mexico saw gains, while Korea and Taiwan outperformed, led by technology stocks. China, Kuwait, and Qatar lagged. South Africa's power crisis worsened, impacting economic growth, while Turkey posted the largest loss due to President Erdogan's re-election.
Global Bonds:
Q2 saw reduced market volatility and rising government bond yields, with the UK and Australia underperforming due to higher inflation and central bank actions. The Fed paused rate hikes in June after more than a year of consecutive increases.
Corporate balance sheets remained strong despite rising default rates. Global high yield outperformed investment grade as recession concerns eased.
US growth surprised to the upside, with a "soft landing" scenario gaining consensus. US investment grade posted negative returns but outperformed Treasuries, while high yield posted positive returns. The US 10-year yield rose from 3.47% to 3.81%, with the two-year yield increasing from 4.03% to 4.87%.
The ECB continued raising rates and announced the end of Asset Purchase Programme reinvestments from July 2023. Germany's 10-year yield increased from 2.31% to 2.39%. Euro high yield outperformed investment grade.
UK inflation surprised to the upside, prompting the BoE to raise rates by 50 bps in June. The UK 10-year yield jumped from 3.49% to 4.39%, and the two-year yield increased from 3.44% to 5.26%. UK high yield outperformed investment grade.
As global growth sentiment improved, lower-yielding currencies like the yen performed poorly, while sterling was the best performer, supported by higher interest rates.
Convertible bonds, as measured by the Refinitiv Global Focus Index, returned 5% in Q2, benefiting from strong performance in tech stocks driven by the AI narrative. However, the convertible universe lacks some major tech names, limiting full participation in stock gains. The primary market was active, with US$22 billion in new convertibles issued.