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Fed’s wind-down of its balance sheet drags US stocks lower for the week

US stocks edged higher and government debt was under pressure on Friday, as investors positioned themselves for central banks to curb inflation.

The US benchmark S&P 500 share index struggled for direction but remained on track for its first weekly decline in a month, while the technology-heavy Nasdaq Composite dropped 0.5 per cent.

The FTSE All World index of developed and emerging market shares added 0.3 per cent on Friday, but was set to register a weekly fall of about 1.1 per cent.

In government debt markets, the yield on the 10-year Treasury note, which influences borrowing costs worldwide, added 0.04 percentage points to 2.69 per cent on Friday. Yields rise when prices fall.

Prices in the $23tn US Treasury market have extended their decline following the worst quarter of returns since at least 1973, as Russia’s invasion of Ukraine exacerbated pandemic-induced inflationary pressures, clouding the economic outlook.

“The themes that dominated markets in the first quarter are still in play unfortunately,” said Paul O’Connor, head of Janus Henderson’s multi-asset team in the UK.

“Every now and then, you may see a small burst of enthusiasm, but this will meet strong headwinds from central bank [monetary] tightening and the war in Ukraine — and there’s been no relief from either.”

Minutes of the US Federal Reserve’s latest monetary policy meeting showed “many” of its policymakers viewed one or more half-point interest rate increases as appropriate if inflation — now at a 40-year high — remained elevated. Markets are pricing in a fed funds rate of 2.6 per cent by December, compared with between 0.25 and 0.5 per cent currently.

The dollar index, which charts the greenback against six currencies including the euro and sterling, rose 0.1 per cent to its highest level since May 2020, as investors bet central banks would raise rates to combat inflation.

World food prices rose by a record 34 per cent in the year to March, UN data released on Friday showed. Inflation has not only strengthened central banks’ resolve to raise borrowing costs for companies and households, but also eroded the real-terms returns on bonds’ fixed income payments.

“Investors have a lot on their plate at the moment,” said Maria Municchi, multi-asset portfolio manager at M&G.

“The main question is whether we are going to see a global recession in the next 12 months,” she added. “Will interest rates go quite a bit higher and then have some consequences for [economic] growth?”

Europe’s benchmark Stoxx 600 share index added 1.3 per cent, boosted by bank stocks viewed as beneficiaries of rate rises. France’s CAC 40 share index gained 1.3 per cent, with some analysts cautioning that traders had not fully quantified the risks of Emmanuel Macron losing this month’s presidential election to far-right candidate Marine Le Pen. Exit polls suggest Macron’s lead over his rival is much narrower than it was five years ago.

“This could be a cause for concern and it’s not really priced in at the moment,” said Antoine Lesne, head of research and strategy at State Street’s SPDR ETF business.

In Asia, the Hang Seng Tech index, which tracks Hong Kong-listed technology companies, dropped sharply before closing 1.1 per cent lower.

Brent crude, the oil benchmark, fell 0.1 per cent to $100.45 a barrel.

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