Equity markets continue to rally, led by the US (S&P 500 +1.4% last week) as AI-related investment spending flows through to stronger earnings.

The breadth of winners is widening in the US. A strong update from Dell (NYSE:DELL) reinforced the enterprise hardware story, while a similarly well-received quarterly from Snowflake (NYSE:SNOW) showed some software stocks are benefitting from AI, as companies seek a control or orchestration layer.

Oil prices continued to fall last week (Brent crude -11.1%). This was due largely to the recurring prospect of a ceasefire and reopening of the Strait of Hormuz, as well as better availability of oil and fuel as Chinese imports slow and reserves are released.

The latter tailwind appears to be sustainable for a couple of months.

The fall in oil – combined with benign inflation data – led to lower bond yields which helped the interest-rate-sensitive part of the equity market.

The S&P/ASX 300 rose 0.9%, but lags the US by 22% quarter-to-date due to its relative lack of semiconductor and other AI-related exposure.

Reasonable domestic consumer price index (CPI) data released last week saw lower expectations for further rate hikes and drove a rally in discretionary stocks.

The domestic tech sector continues to recover, outperforming the S&P/ASX 300 by 11.1% quarter-to-date, but still lags the broader market by 18% this year.

Bank stocks continue to lag, underperforming the market 5.5% in May.

Iran war outlook

A deal to reopen the Strait remains elusive for now.

The key issues appear to be:

• The timing of Tehran’s access to frozen funds relative to the Strait’s re-opening
• Wording around some acknowledgement of Iran’s influence over the Strait
• The framework for discussions on enriched uranium
  

One factor for the US is obtaining an agreement that’s not perceived to concede too much – particularly relative to the Obama-era Iran deal.

There is also disagreement over the number of ships now transiting the Strait, with some suggesting it is opening up.

Iran’s Islamic Revolutionary Guard Corps claimed there were 20 to 35 daily transits last week (compared to 95 pre-war).

But the International Monetary Fund’s PortWatch noted only four per day in the week to May 24 and Lloyd’s of London reported on May 26 that traffic was down by almost half compared to the previous week.

It may be that the IRGC numbers relate to permits issued (rather than actual transits) and may include Iranian traffic heading to other Iranian ports, which is not relevant to global fuel supply.

The conclusion is there is no tangible evidence that supply is improving.

Despite this, oil and fuel prices continue to fall.

This is more than just market optimism about a deal; it reflects the reality that there is ample supply, for now.

The drivers of this are:

1. Chinese oil imports are estimated to have dropped from 12 million to 7 million barrels per day (bpd) in May. Some of this is demand reduction which is estimated at 9%, or about 1.5m bpd. The remainder is a draw-down on strategic reserves. Chinese demand has also fallen with a pivot to coal and renewables, adoption of electric vehicles (now estimated at a third of China’s transport fleet) and a switch from air travel to trains.
2. Global demand loss for May is estimated at about 5.6m bpd (compared to 4.3m in April) or about 4.1m bpd excluding China. Of this, about 3m bpd is from petrochemical demand (eg plastics, textiles, fertilisers), 600k bpd from fuel oil and 500k bpd from jet fuel.
3. US oil exports have increased by 2 million to 3 million bpd.
4. Strategic petroleum reserves (SPR) are drawing down 2-3m bpd.
5. There has been growth in other supply and commercial stock draw-downs
   

So if the starting point is a shortfall of 15 million to 16 million bpd (net of the flow through alternative pipelines), then the factors above are currently plugging that gap and can plausibly continue to do so for another two months.

China can probably sustain reduced demand for an extended period.

This means the key swing point would be the continued SPR draw-downs in other countries and US commercial stocks running too low.

If these factors reached a tipping point, the market would need higher prices to choke off another 3m bpd of demand, which would start getting into more price-inelastic areas like gasoline and diesel.

If anything, there are some short-term oil surpluses for now, since refiners are wary of bidding for product with the risk of a deal.

This has led to further falls in fuel prices.

For example jet fuel, having surged from US$90 to $US220 a barrel in the conflict’s initial stages, has fallen back below US$130.

AI themes

Two quarterly results in the US last week fuelled a broadening of the AI theme:

1.  Dell (+33%): The computer hardware-maker’s revenues were 23% above expectations and up 88% year-on-year, driven by AI-optimised server revenue (+757% yearly) to US$16 billion. Orders were 1.5x recognised revenue with the backlog rising faster than they could ship. AI customers were up 50% in six months. Supply remains constrained, particularly in memory. Guidance for FY27 is for 50% revenue growth. This highlights the demand from enterprise to upgrade infrastructure.
2. Snowflake (+36%): The cloud-based platform, which helps organisations store, analyse and share massive amounts of data, had been caught up in the “SAASpocalypse”, falling 56% from November to April. It reported its second quarter of accelerating year/year revenues from 26% in Q3 CY25, to 30% in Q4 CY25 and now 34% in Q1 CY26, with net revenue retention (a measure which excludes new sales and indicates if existing customer base is growing or shrinking) of 126%. Customers using AI are looking to Snowflake for their intelligence layer – effectively a control plane across the AI agents. This supports the thesis that agents run on top of the Snowflake’s software rather than disintermediate their data warehouse. Snowflake guided to FY27 product revenue growth of 31% (up from 27%) and raised both margin and free cash flow margin guidance.
   

The key observation here is an acceleration of spending at both ends of the AI stack – in enterprise hardware (servers) and applications (software) – as companies position themselves to integrate AI.

This builds on recent comments from US network equipment maker Cisco Systems that enterprises need to invest in infrastructure to be in a position to use agentic AI.

Confidence in demand is increasing and there are supply constraints that help support margin for companies involved in the build-out of this hardware.

It’s still true that some software businesses facing structural threats, but the market is shifting away from treating the issue in an indiscriminate way.

This is helping underpin a rally in semiconductors – and now a broader rebound with the iShares Expanded Tech Software Sector ETF breaking back above its technical resistance level.

US data

Overall, data is signalling a US economy that is holding up well, underpinned by a resilient consumer and strong investment spending.

Inflation remains stubbornly high, but is not getting worse.

Inflation

The latest personal consumption expenditures (PCE) data – a measure of inflation – was in-line with expectations at a headline level and slightly below expectations on a core basis.

The core measure is still running at 3.3% year-on-year, with headline at 3.8%.

This print, combined with the fall in oil prices, helped two-year US Treasury yields drop 12 basis points.

The US Fed’s challenge is that the absolute number remains stubbornly high at above 3%, while its target is 2%.

There are reasons to believe the current inflation rate may be overstated, including:

1. Some tariff effects remain
2. There is a reasonable case that IT/software inflation is being materially overstated, due to AI spending and the subsequent uplift in product quality/value to customer not being reflected in pricing.
   

New Fed chair Kevin Warsh believes the trimmed mean PCE is a better measure of inflation that the Core. The former is running at 2.33%.

However even using this different perspective, inflation data is still running above target.

And when you look at the underlying components, goods are deteriorating – which reflects more-consolidated industries – while services are stable but have not yet begun to fall.

Given labour market trends are improving, and we are in an environment where inflation risk is perceived as being higher, it’s difficult to see how the Fed could make a case for easing.

Spending

US real disposable income and spending data suggest consumption is holding up well, despite some pressure on disposable income – and this is supported by a fall in the savings rate.

Consumption rose 0.1% monthly but prior months were revised up leading to the three-month number picking up.

Real wages were softer, which led to disposable income falling 0-0.5% month/month and -0.3% on a rolling three-month basis. The savings rate fell to 2.6%, its lowest point since December 2022.

This can be read two ways.

Either consumption is unsustainable, or other factors such as consumer wealth, expectation the fuel price shock will prove temporary, and confidence in employment are all underpinning consumer spending.

With recent falls in US petrol prices, there are some signs of relief supporting resilient consumer demand.

Australian economy

April’s CPI inflation data was better-than-expected at a headline level, prompting optimism that the RBA may not need to raise rates again. This drove a 9bp rally in the 2-year government bond.

• Headline CPI rose 0.4% month/month versus 0.6% expected. The annual rate was 4.2% versus 4.3% expected and 4.6% in March. This was helped by the drop in fuel excise.
• The trimmed-mean measure was 3.4%, in line with forecasts. Construction costs surprised to the upside, but international travel was less than forecast.
• The 3-month rate is decelerating marginally and may reflect a loosening of the labour market.
  

The issue for the RBA is that non-discretionary items (electricity, rents, insurance, education and health) is running at 5.1%. A number of these are structural, such as the impact of the housing shortage.

The RBA needs the economy to run below trend for a period and that probably equates to 1.5% GDP growth. The challenge is while the consumer may be slowing, data indicates the investment side of the economy is accelerating.

Household spending fell 1.1% month/month in April, below forecast, and is +4.9% year/year (versus 5.8% expected).

April’s drop-off came after two strong months and takes the underlying rate back to around 5% which was where it had been. The main cause was a fall in air travel due to the Iran war. The three-month run rate is at 3.6% annualised.

Offsetting this was a boom in investment spending. Private cap-ex spending rose 6.5% quarter/quarter versus 1.2% expected, driven by a surge in plant & equipment spending (+18% quarter/quarter, 31% year/year).

This was driven by non-mining sectors (+8.8%), specifically tech related spend (+96% quarter/quarter and 190% year/year) off the back of an acceleration in data centre spending. There was an offset in building and structures, down -3.8%.

The overall impact is hard to determine, as there is an offset in that at least 50% of data centre investment goes into imported items, although that component is back-ended.

So the net effect on GDP is not as it looks at face value. It is however estimated that investment could represent 40-50% of incremental GDP growth, which does put pressure on the RBA to slow other parts of the economy.

Markets

Markets remain well supported despite the fuel crisis.

Falling energy prices (for now) and lower bond yields help underpin what has been an earnings-driven rally in the US.

Anecdotes around AI investment remain supportive and the recovery in the software index adds breadth to the rally.

Falling oil and bond yields supported airlines and homebuilders last week.

Despite the rebound, overall sentiment does not look too stretched.

One issue to be mindful of is US equity supply; the combination of rising capex spend by US corporates will limit the rise in buy-backs.

At the same time an increase in IPOs, notably SpaceX, could provide a liquidity overhang, which may see some market consolidation.

The key threat to the market, in our view, would come from a softening outlook for AI spending and AI business models. That is not currently on the horizon.

The other would be a significant deterioration in the economy. This risk has diminished as the fuel shock has subsided.

The Australian market was strong last week, helped by inflation data easing concerns on rates and driving market rotation back to some of the more rate-sensitive sectors.

Discretionary stocks rose 4.6% and REITs 2.3%. We also saw tech stocks continuing to bounce, albeit nothing like what has been seen in the US. Banks continue to lag the market both for the week and the month.

The S&P/ASX 300 was up 1.3% for May.

The best-performing sectors were resources (+7.7%) and discretionary (+4.6%).

Healthcare (-8.9%) Utilities (-7.6%) and Energy (-6.0%) were the worst performers. Banks (-4.2%) also lagged.

From a stock perspective, smaller-cap names such as Megaport (MP1, +69.4%) and Sime (SGM, +29.7%) – where earnings are linked with AI demand – led the market.

Among the best-performing larger-cap names were miners (eg South32 (S32, +19.4%) BHP (BHP, +16.0%), rate-sensitives (eg Computershare (CPU, +14.6%) and fuel deflation beneficiaries (eg Qantas (QAN, +12.3%).
Among the worst performers were companies that downgraded earnings guidance, including Brambles (BXB, -26.8%), ASX (ASX, -24.05), CSL (CSL, -22.3%), Endeavour (EDV, -14.0%), Origin Energy (ORG, -10.2%). Fuel-related names such as Viva Energy (VEA, -13.8%) and Woodside Energy (WDS, -8.6%) also underperformed.

IMPORTANT INFORMATION: This document has been prepared by Enhance Financial Partners, ABN 45 146 707 173 AFSL 515518, based on our understanding of the relevant legislation at the time of writing. While every care has been taken, Enhance Financial Partners makes no representations as to the accuracy or completeness of the contents. The information is of a general nature only and has been prepared without consideration of your individual objectives, financial situation or needs. Before making any decisions, you should consider the appropriateness for your personal investment objectives, financial situation or individual needs. We recommend you see a financial adviser, registered tax agent or legal adviser before making any decisions based on this information.