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26 May 2026 | 3 minutes to read
(All equity data is MSCI; all data in sterling unless stated)
Strong first quarter earnings growth sustained equities last week but bond markets fretted about the Iran war and longer-term inflation expectations.
Company guidance now implies average earnings growth of 22% for the S&P 500 this year – an impressive level more typically seen after a recession. The world’s most valuable public company, US chip giant Nvidia, posted record revenues of $81.6bn for Q1. Yet its share price fell slightly, as investors questioned whether parabolic demand for its AI-wares is sustainable. News that SpaceX is seeking a public listing at a massive $1.75trn valuation, and that peers including OpenAI are to tap public capital sooner than planned, buoyed sentiment.
Government bond markets were edgier. The longer the Iran crisis, the likelier that higher oil prices will push inflation and interest rates higher – denting bond returns. 10-year yields therefore rose sharply (as bond prices fell), before stabilising: the 10-year UK gilt yield’s range was 5.18% to 4.9%.
Investors have also driven up longer-dated government bond yields, effectively signalling two concerns. First, that policy risk needs compensation. Second, that higher government spending may be structural. Take Japan, where the 30-year bond yield hit a record high of over 4.19% last week. Four years ago, its yield was 1%.
Although it takes skill to manage the interest-rate sensitivity (or ‘duration’) of bonds, after a decade of ultra-low bond yields between 2012 and 2022, investors are now being paid more to take risk in fixed income markets.
Elsewhere, Brent Crude oil was volatile, trading between $112 and $102 per barrel. EasyJet and Ryanair reported that they were not experiencing jet fuel shortages, with suppliers managing to offset disruption in the Middle East. Gold was becalmed: at around $4,500 per ounce, it remains 15% lower than before the Iran conflict began.
UK Consumer Prices Index (CPI) inflation slowed to +2.8% in the year to April, down from +3.3% in March and below expectations of +3%. Although positive, inflation remains above the Bank of England’s 2% target, and the improvement may not last. The drop was largely driven by a reduction in the government's energy price cap, which cuts typical household bills by around £117 between April and June. However, inflation is expected to rise again, partly due to higher global energy prices linked to ongoing tensions in the Middle East.
The BoE remains cautious. It uses interest rates to help control inflation – raising rates usually slows price rises, while cutting may support the economy. Policymakers have held rates at 3.75% since December but have signalled that they may raise them if inflationary pressures re-emerge, especially if oil prices stay high. Markets are increasingly pricing-in a shift in direction, with expectations of a 0.25% rate hike as early as July, which would take Bank Rate to 4.0%. But inflation concerns are just one side of the BoE’s difficult balancing act. The UK economy remains fragile, with slow growth and signs the jobs market is cooling, which makes it riskier to increase rates too aggressively. The next rate decision is due on 18 June. Investors will be closely watching for clues about the Bank’s policy path.
Despite stating that the UK would be among the hardest hit from the Iran war, the International Monetary Fund (IMF) upgraded its growth forecast for this year from 0.8% to 1%. The estimate is still lower than the 1.3% it predicted in January and it warned that the conflict and prevailing "domestic uncertainty" were reasons for caution.
The IMF’s revision reflects the UK’s relative economic strength, having grown by a better-than-expected +0.6% in Q1 – rebounding after the uncertainty surrounding the last Budget. However, volatile geo-politics and domestic affairs risk holding back consumption and investment. Perhaps partly for that reason, the IMF suggested that the BoE should hold interest rates steady, rather than hike, to manage near-term inflation.
The IMF also noted that the UK government’s plan to address its deficit would help protect fiscal credibility. But news last week that public sector net borrowing hit £24.3bn in April was a reminder of the scale of the challenge. It was the second highest level of borrowing on record for April – the start of a new financial year. Higher tax receipts were overwhelmed by higher spending – particularly on inflation-linked benefit payments and debt interest costs.
Increasingly tempted to help soften today’s rising cost of living, the government also faces tough long-term fiscal choices. The IMF recommended that any market interventions – including the postponement of fuel duty rises, VAT holidays and reportedly asking supermarkets to freeze the prices of some ‘essentials’ – should be targeted and time-limited. (The UK supermarket sector is highly competitive, and margins are thin. State mandated price controls are likely to lead to unintended consequences. And retailers know that higher employer National Insurance payments and minimum wage costs have already contributed to inflation).
In the background, policy uncertainty is increasing. The likely challengers for the Labour Party leadership have begun to campaign for support. Former Health Secretary, Wes Streeting, suggested the UK could one day rejoin the European Union, while Andy Burnham pledged not to re-run Brexit arguments. Burnham also sought to downplay earlier comments dismissing bond markets by saying he would stick to the current administration’s fiscal rules.
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