Will they/ won’t they cut rates is the question of Q2?

Stock markets seem to rally no matter what is thrown at them this week. The S&P 500 is a mere 0.28% away from rising by 10% in Q1. This is the last main day of trading before the Easter holiday, and a couple of key themes are emerging: 1, there has been some significant push back from Fed and Bank of England members around the timing of rate cuts, and 2, the Bank of Japan still haven’t physically intervened in the FX market to stem yen weakness although they are threatening to do so.

We will probe these two themes below, but as we near the end of the first quarter it’s worth noting that 82% of the S&P 500 members are currently above their 200-day sma, 80% of Eurostoxx 50 members are above their 200-day sma, and 72% of FTSE 100 members are above their 200-day sma. This has grown throughout the quarter as the market rally has become broader based and not just focused on tech.

Broadening rally is supportive of stock market gains in Q2

The top performing companies in the S&P 500 so far this year are new member Super Micro Computer, which is higher by more than 259%, and Nvidia, up 82%. Semiconductors were the standout performers in Q1, and what is more spectacular is that Nvidia’s 1-year forward BEst P/E ratio does not look that expensive at only 30 times earnings. General Electric, Meta, Disney and Eli Lily are the other top 10 performers in the S&P 500 so far this year. In the past month, there has been a broadening out of the rally. Nvidia has slipped out of the top 10, but Fedex and Decxom have had a strong performance in the past month. The broadening out of the stock market rally in the US may be supportive of further gains as we move into Q2.

Can the FTSE 100 play catch up in Q2?

In the FTSE 100, Rolls Royce is the best performer so far this year, along with Natwest and Barclays. In the past month, Howden Joinery and IAG are both top 10 performers, as they benefit from an uptick in the economy and the prospect of lower interest rates giving the consumer a boost. This is a keen reminder that the FTSE 100 has some strong companies, even if the overall index is one of the weakest performers in the West so far this year and is higher by just over 2%. In Europe, the top performers include the banks and SAP, so far this year. Hermes is also one of the better performing luxury stocks, as Kerring was hit by weak sales from Gucci.  Japan takes the crown as the best performing stock market in the developed market space. It is higher by more than 20% on a USD basis, however, returns get eroded if you are transferring them back to yen, due to the 34 year low in the Japanese currency, which has accelerated lower in the wake of the BOJ ‘dovish’ rate hike earlier in March. In JPY terms, the Nikkei is higher by 12%.

BOJ intervention that still hasn’t happened

The key theme for FX as we move into Q2 is official Japanese intervention risk to stem the decline in the yen. The Japanese PM came out on Thursday and escalated the rhetoric by saying that they were watching the FX market with a ‘high sense of urgency’, and they won’t rule out any options on FX. This hasn’t really moved the dial for the yen, and USD/JPY is mostly stable as we head into the long weekend. However, as mentioned in previous notes, the BOJ may wait until Friday’s core PCE inflation reading before deciding if it needs to intervene or not. A weak inflation reading could trigger USD weakness, which would do the BOJ’s work for them. However, If US inflation data is strong, then the BOJ may not be able to keep its powder dry, and it may need to physically buy yen to prop it up, as verbal intervention does not have a historical record of effectiveness.

Nothing settled when it comes to rate cuts

Elsewhere, US Treasury yields are rising across the curve and the 10-year Treasury yield rose to 4.23% earlier on Thursday, before falling back ahead of the US open. The trigger was more hawkish comments from Fed member Christopher Waller, who called recent inflation figures ‘disappointing’. He said the economy was strong, and he would need at least a couple of months of improvements in inflation data before he would support a rate cut. The market is currently expecting a rate cut in June, according to the CME Fedwatch tool, and there is now a 60% probability that this will happen. However, this is lower than the 64% chance of a June rate cut 1-week ago. Nothing is settled when it comes to the timing of rate cuts in the US and elsewhere, and, in our view this is the key theme that will drive markets in Q2.