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Equity markets continued to rally higher last week despite a sustained back-up in interest rates as Federal Reserve members have increased calls for a more aggressive pace of tightening. For the week, the S&P 500 gained 1.8% while the Dow Jones and Nasdaq Composite rose 0.3% and 2.0%, respectively. The S&P 500 energy sector, which has gained 44% so far this year as of Friday’s close, led the way once again on tightening oil supply expectations, but all sectors were in the green with the exception of health care. However, energy prices have tumbled lower in this week’s early trading following news out of China that Shanghai will be locked down for 9 days in response to a sharp ramp in Covid cases. Shanghai is a major transportation hub and home to the world’s largest container-shipping port, so the lockdowns are likely to feed into lingering supply chain issues and may dent oil demand.

In fixed income markets, the forecast for sharper near-term rate hikes continues to put additional pressure on bond prices. The U.S. 10-year Treasury yield pushed as high as 2.50% last week, and intermediate rates rose even higher with the 3-year treasury yield reaching 2.57%. The slight inversion in the yield curve, with some shorter maturities yielding more than longer-dated bonds, reflects the potential for a more frontloaded, restrictive tightening cycle to rein in inflation in the short-term and expectations for current inflation pressures to gradually dissipate and rates to be cut back lower in the long-term. However, the spread between the 3-month Treasury yield and the 10-year Treasury yield is just below 2% at this point, so the Fed still has a ways to go before short-term rates have risen to levels considered overly restrictive.

The Treasury yield curve is a key barometer of the health of the U.S. economy and will be a significant area of focus for investors in the coming quarters. An inverted yield curve typically indicates that the economy is late in its cycle as the Fed tightens policy to prevent the economy from overheating. Although such an indicator should not be taken lightly, we would note that not all historical yield curve inversions have been followed by recessions. And in some cases where it has preceded recessions, the lag between inversion and recession has been up to 2 years, which we wouldn’t really classify as “impending”. Like all economic indicators, it shouldn’t be viewed in isolation, and we will monitor it relative to a broad set of fundamental data on the state of the economy and keep you apprised of our thoughts.

In the week ahead, market participants will be closely monitoring ongoing ceasefire talks between Russia and Ukraine. Both sides have downplayed prospects for a breakthrough, but Russia’s chief negotiator Vladimir Medinsky has noted potential to de-escalate the conflict, including a reduction in military operations near Kyiv, as the discussions have become more constructive. This week will also kick off the release of a series of important economic updates, starting with the March ISM manufacturing report and the monthly payroll release on Friday. These data points are expected to show robust hiring and demand, including a forecast for 480k new jobs added to the U.S. economy in March, but they may also start to shed some light on how the Russia-Ukraine conflict is impacting business sentiment and supply chains.