MARKET WRAPS

Stocks:

European stocks slid for a second consecutive session Monday, as investors continued to fret about central banks mulling potential interest-rate rises to stem soaring inflation.

In the U.S., Federal Reserve officials have spent the past two months getting investors acclimatized to their plans to slow economic growth and combat inflation by raising interest rates in half-percentage-point increments until price pressures cool.

This week's policy meeting will show whether officials are still comfortable with that approach in light of Friday's report that showed inflation sizzled in May, hitting a new 40-year high.

The bigger question centers on how high Fed officials see rates rising this year and next, and whether Jerome Powell opens the door to a 0.75 percentage point hike at the central bank's July policy meeting.

"The chance of a 75bp hike in July is now more than 50%, and the market even gives a 14% chance for a 100bp hike. This is how hawkish the Fed expectations got following the Friday's unfortunate CPI read," wrote Ipek Ozkardeskaya, Senior Analyst at Swissquote Bank.

In the U.K., U.K. GDP figures for April showed that activity contracted over the month, but the data aren't likely to deter the Bank of England from increasing interest rates again on Thursday.

Capital Economics said the 0.3% GDP decline in April was mainly due to the winding down of the Covid-19 related test and trace scheme, suggesting that the underlying momentum of the economy isn't as weak as the headline figure reflects.

However, the lower than expected GDP print will probably make the BOE lean toward another 25bp interest rate hike rather than a bigger move.

Stocks to Watch:

Capgemini is expected to raise its 2022 revenue growth guidance next month thanks to strong demand, according to Citi.

The French group's first quarter results, its healthy demand outlook so far into the second quarter and the macroeconomic environment lead Citi to expect a guidance upgrade during first-half results.

Citi expects Capgemini to raise its constant-currency revenue growth guidance to 10.5%-12.5%, from 8%-10%. Factoring in higher organic growth, it now expects Capgemini to post constant-currency revenue growth of 11.8% for the year.

The company's margin and free cash flow guidance are expected to stay unchanged, the analysts say. Capgemini is one of the bank's most favored stocks in the European technology sector.

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Nationalization of French utility EDF could help solve its structural problems and is looking pretty likely, said Citi's Piotr Dzieciolowski.

EDF is struggling with rising energy bills, the effects of nuclear outages and changes to a mechanism that allocates part of the company's production to other suppliers. Nationalization by the French state, which already owns the bulk of EDF's share capital, could help resolve these issues, offering greater flexibility and a possible tool for recapitalization, Dzieciolowski said.

With the share price currently low and current time pressures, the outcome is looking more and more possible.

Citi has a buy rating and a EUR11.30 target on EDF stock.

Economic Insight:

The eurozone economy could weaken further after the summer and experience a mild recession at the turn of the year, said Barclays.

This recession would be caused by persistent manufacturing bottlenecks, the negative impact of high inflation on household purchasing power and the terms of trade shock on company profitability.

Taking into account all these factors, Barclays has downgraded its 2023 growth projection to 0.5% from 1.8%. At the end of 2023 Barclays expects the level of real GDP in the eurozone to still be around 4 percentage points below the level it would have achieved if growth averaged the 2015 to 2019 rate.

U.S. Markets

Stock-index futures sank after Wall Street's worst week since January, following renewed inflation worries.

Fed policy-makers are set to meet this week, and are expected to raise interest rates by 50 basis points, though some economists think that after Friday's CPI report, there may be support for a more aggressive 75-basis-point hike.

Forex:

The dollar strengthened broadly, gaining ground against a basket of currencies.

"Market participants are now more convinced that Fed tightening will be even more front-loaded with rates rising to a higher peak next year," said MUFG currency analyst Lee Hardman. The Fed is likely to raise its guidance for rate rises at Wednesday's meeting, which should support the dollar, he added.

Meantime, the possibility of an even wider interest-rate differential between the U.S. and Japan pushed the yen down further. The Japanese currency fell to a new multidecade low, weakening beyond 135 a dollar to trade at its weakest since 1998.

Masahiro Ichikawa, a strategist at Sumitomo Mitsui DS Asset Management said the yen's slide could be arrested if the Fed is forced to raise interest rates more quickly, fueling concerns about the global economic outlook. That in turn could boost traditional haven currencies, including the dollar, the yen and Swiss franc, he said.

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Sterling fell to a four-week low against the dollar after data showed the U.K. economy unexpectedly contracted 0.3% month-on-month in April after a 0.1% decline in March. Economists polled by the WSJ expected GDP to increase 0.1%.

"GDP will remain weak over the coming quarters and a recession can't be ruled out," said Capital Economics economist Paul Dales. This may tilt the Bank of England towards continuing to raise rates by 25 basis points at Thursday's meeting, rather than the 50bp rise Capital Economics expects.

Bonds:

French government bonds underperformed German Bunds in early European trading as Emmanuel Macron was at risk of losing his parliamentary majority, after the first round of elections showed his candidates running neck and neck with leftist rivals.

Although the president appoints the head of government, the prime minister and the cabinet need the backing of parliament, therefore a parliamentary majority can ultimately determine the government and much of domestic policy, said Berenberg's economist Holger Schmieding.

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LBBW expects the 10-year German Bund yield to trade at 1.30% by end-September, up from its previous forecast of 1%, in light of the ECB's planned interest rate rises.

While LBBW's new forecast is an increase, it is below current markets level because it expects recent yield rises to partially correct. Amid an overshoot of the bond-bearish momentum in long-term rates, "looking ahead over the next three months, some of that is likely to be corrected, " said LBBW. By mid-2023, it expects the 10-year Bund yield at 1.60% up from the previous forecast of 1.40%.

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Barclays said the risks to eurozone peripheral spreads are "fairly symmetric" from here.

Rates strategists Cagdas Aksu and Max Kitson said the lack of concrete support from the ECB could enable further spread widening, especially if broad credit spreads keep widening.

However, peripheral spreads could trade more resiliently if broad credit stabilizes, especially in the context of favorable supply-demand dynamics in peripheral government bonds as summer progresses, the strategists said.

In their view, the ECB's rate decision last week to start interest rate rises with a 25 basis point, rather than a 50bp, hike in July "may represent an attempt to buy more time to watch price action in peripheral bond markets."

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Eurozone noncore bonds have come under pressure in recent weeks as the ECB has turned more hawkish, with more increases in store for government bond yields, Florian Spaete, senior bond strategist at Generali Investments, says in a note. The ECB's intention to raise key rates noticeably during 3Q and later, in view of elevated high inflation, "is forecast to cause the EMU [eurozone] yield level to rise further which will likely bring debt sustainability concerns to the fore again," he says. (emese.bartha@wsj.com)

Other News:

S&P said it was revising its outlook on Serbia to stable from positive in the wake of the Russia-Ukraine military conflict and affirmed the nation's 'BB+/B' foreign and local currency ratings.

The conflict will weigh on the European economy, which contains many of Serbia's key trading partners, S&P said. "As a result, we expect Serbia's GDP growth to slow to 3% in 2022 and its fiscal and current account deficits to widen."

S&P had previously said it expected Serbia to see GDP growth of 4.3% this year. S&P also said "Serbia's relatively robust long-term growth prospects are supported by its credible policy framework."

Energy:

Oil prices extended their losses on mounting risks of new lockdowns in China and heightened inflationary pressures.

"Oil continues to trade lower with a broader risk of running for cover with stagflation storm clouds filling the horizon and fresh lockdown fears building in China," wrote Stephen Innes, managing partner at SPI Asset Management, adding that Beijing's government spokesperson referred to the current outbreak in the city as "ferocious".

"Hyperbole or not, China's zero-tolerance approach leaves the country stuck in a cycle of highly disruptive lockdowns and reopenings."

Metals:

Gold and base metals were lower as the dollar continued to climb on the Fed's likely tightening path and on growing economic risks.

"U.S. inflation being at another high just doesn't inspire any confidence at all, and the market expects an almost 100% probability of a rate hike at the next [FOMC] meeting," said Marex.

It said that "markets continue to show medium and longer-term bearishness when it comes to base metals."

DOW JONES NEWSPLUS


EMEA HEADLINES

U.K. Economy Shrinks for Second Month as Outlook Dims

The U.K.'s economy contracted for the second straight month in April, as surging inflation weakened consumer spending, and programs designed to contain the spread of Covid-19 were wound down.

(MORE TO FOLLOW) Dow Jones Newswires

06-13-22 0531ET