U.S. equites posted strong gains for the week, as investor sentiment improved amid easing trade tensions and positive economic indicators. The Dow Jones Industrial Average rose by 0.5%, the S&P 500 increased by 0.3%, and the Nasdaq Composite advanced by 0.2%. These gains were driven by optimism over a 90-day tariff truce between the U.S. and China, as well as a rebound in technology stocks. However, the market's upward momentum was tempered by concerns over the sustainability of the rally and the potential for renewed trade disputes.

During the 90-day period, the U.S. agreed to reduce its tariff on most imports to 30%, which includes a 20% tariff related to the battle against fentanyl. China agreed to reduce its tariff to 10% on most U.S. goods, as well as ease some nontariff trade restrictions, such as on rare-earth minerals. Stock markets rallied sharply, and interest rates rose on the news. The short-term truce is also particularly meaningful since it's between the U.S. and one of its largest trading partners with which it has a sizeable trade deficit, making a deal more complex. In other trade-related developments, the U.S. administration also announced plans to ease trade restrictions related to artificial-intelligence chips, which helps enable trade agreements between U.S. tech companies and other countries.

Economic data released during the week provided a mixed picture. April retail sales came in stronger than expected demonstrating the resilience of the U.S. consumer. While some of this strength may be the result of a pull forward in demand on certain goods like cars to front-run the impact of tariffs, there was also upside strength in spending on services including a large increase at restaurants and bars, which tends to be among the most vulnerable when consumer spending pulls back. In contrast to the hard data on current spending activity, consumers continue to grow more cautious on the future outlook, reflecting ongoing concerns about tariffs and economic uncertainty. The Index of Consumer Sentiment published by the University of Michigan fell for a fifth consecutive month in the preliminary May reading released on Friday and now sits at its lowest level since the summer of 2022.

While consumers are increasingly wary about the potential for a sharp rise in inflation, tariff pressures did not yet have a material impact on April’s inflation results. In fact, the Consumer Price Index (CPI) grew just 2.3% year-over-year in April, which was the smallest increase since February 2021. Shelter prices remain the primary sticking point for consumer prices, while a sharp decline in oil prices has delivered savings at the pump. Meanwhile, producer prices, which often provide a leading indication for consumer prices, unexpectedly dropped in April. The Producer Price Index (PPI) fell 0.5% during the month and moderated to annual rate of 2.4% (or 2.8% excluding volatile food and energy prices).

The positive news on inflation seems unlikely to last near-term as tariff impacts begin to materialize more noticeably over the next few months. During an earnings call last week, retail giant Walmart warned that they would not be able to absorb all of the rising costs from tariffs, even with recent tariff reductions, and consumers may start seeing higher prices by the end of May. Walmart is among a growing list of retailers warning of coming price increases on goods.

Following last week’s strong rally, U.S. financial markets are off to a rocky start in this week’s early trading on news that the country’s credit rating was downgraded by Moody's from Aaa to Aa1, citing ballooning federal debt and increasing interest costs. Stocks are largely shaking off the news as Moody’s was the last of the major credit agencies to downgrade the U.S. from Aaa (S&P downgraded the U.S. in 2011 and Fitch downgraded the U.S. in 2023). However, the move is fueling a further decline in the U.S. dollar and pushing up interest rates with the 10-year U.S. Treasury yield jumping to 4.50%.

On the economic front this week, key data releases include new and existing home sales figures, as well as flash PMI data, which will provide insights into the health of the housing market and manufacturing sector. Investors will also be closely monitoring unemployment claims, as any significant changes could influence expectations for Federal Reserve policy decisions.

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