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In recent weeks, financial markets have delivered steady positive returns with government bonds, corporate credit and equities all making gains. Since mid-May, European stocks have outperformed the US. Sector performance has been mixed with less leadership from cyclically sensitive stocks and a recovery in technology names. US 10-year treasury yields have fallen back 0.15% to below 1.50%, the price of Gold is largely unchanged at $1,865 and the Dollar index is modestly higher (+0.32%).

Market commentary remains intensely focused on the risk of persistently higher inflation and the reaction function of central banks. Despite another upside surprise in year-on-year (YoY) US inflation in May, financial market concern remains contained. The US consumer price index (CPI) rose 5% YoY in May, the fastest pace since 2008, driven largely by supply chain bottlenecks and reopening demand. For example, a semiconductor shortage hit new car production, resulting in a 7.3% month-on-month (MoM) increase in the price of used cars and trucks. This accounted for a third of the headline increase. Core CPI climbed to 3.8% YoY, up from 3% in April, reaching its highest level in nearly 30 years. Financial markets have not shown any immediate concern to the higher than expected price increases, US treasury yields and market implied inflation expectations have continued to edge lower. The somewhat counter intuitive reaction of the market may suggest a growing number of investors view the current elevated level of inflation as transitory – tied to the base effects and dislocations caused by the pandemic.

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