European stocks slipped and bond markets struggled for direction on Friday as traders shifted their expectations that the world’s largest central banks would prioritise tackling inflation ahead of economic growth.
The yield on the benchmark 10-year gilt yield recouped early declines to rise 0.03 percentage points, to 1.91 per cent as investors digested Thursday’s news that the UK would enter a five-quarter recession at the end of the year.
However, the Bank of England made its largest interest rate increase in more than 25 years, saying that tough action was needed to tame inflation that could reach 13 per cent in October. Bond yields fall as prices rise, indicating that investors are seeking out the haven asset.
Investors were also looking ahead to the publication of US labour market data, a critical benchmark on the health of America’s economy.
In stock markets, European stocks fell slightly in morning trading, with the regional Stoxx 600 down 0.3 per cent, after gains for Asian shares, with Hong Kong’s Hang Seng up 0.1 per cent.
The BoE’s move raised further concerns among traders that other central banks would focus on tackling inflation, despite the prospect of recession.
The 0.5 percentage point rate rise followed hawkish steps to stamp out inflation from the Federal Reserve and European Central Bank, which have both enacted large rate rises in recent weeks.
“The central banks are saying they will do ‘whatever it takes’ to bring inflation down. The market is saying we’re heading into a recession and that you don’t need to drive rates higher,” said James Ashley, head of international market strategy at Goldman Sachs Asset Management.
“Our view is inflation is going to be quite sticky and persistent and they are going to follow through. There’s a good chance of another [half percentage point rise] in September and a rate rise in November,” he added.
US non-farm payrolls published on Friday will shed light on the health of the world’s largest economy and test Federal Reserve officials’ resolve to increase rates as economies slow.
“The Fed has been clear that the size of future hikes will depend on incoming data where inflation, wages, new hires, and unemployment will weigh particularly heavily . . . [S]trong labour market data is crucial to allow the Fed to continue raising rates aggressively,” wrote analysts at SEB, the Swedish bank.
Futures tracking the blue-chip S&P 500 index and the tech-heavy Nasdaq were both up by 0.2 per cent. The 10-year US Treasury yield gained 0.02 percentage points.
Earlier this week, Fed officials dismissed market speculation that the US central bank would quickly cut rates next year if signs of an economic slowdown emerge. Andrzej Pioch, a multi-asset fund manager at Legal and General Investment Management, said hopes among investors for rate cuts in 2023 were “optimistic” and “overdone”.
In currency markets, sterling slipped slightly against the dollar, losing 0.2 per cent to $1.213 and 0.1 per cent against the euro to €1.186.