Looking on the Bright Side

Equity markets continued their upward march last week and global equities are now only a modest 2% or so below their highs last year. The US market has led the recovery and is only 1.5% off its previous high. Other regions have rebounded rather less with the UK and Europe still some 6% below previous highs in sterling terms, emerging markets 7.5% and Japan as much as 11%.

The US and China have really been behind the continuing gains in equities. In China, tentative signs have emerged that growth is bottoming out in response to recent monetary and fiscal easing. In the US, last week’s spate of economic data was reassuring. Nonfarm payrolls bounced back in March, easing any lingering fears caused by their paltry gain the previous month. And while the ISM business confidence indices show sentiment trending lower of late, there is no sign of a collapse.

The recession worries triggered by the recent inversion of the US yield curve are already turning into a distant memory. Indeed whereas a few weeks ago, US growth looked in danger of grinding to a halt in the first quarter, forecasts are now for growth of 1-2% – sluggish but not grounds for major concern.

Meanwhile, markets continue to gain comfort from the ongoing US-China trade talks. Both sides continue to describe the talks as constructive even if the date for an agreement has been pushed back to May at the earliest.

Attention will now move onto corporate earnings with the US reporting season kicking off on Friday. Estimates have been revised down heavily in recent months. And with the consensus now looking for a small outright decline in US earnings, it shouldn’t be too hard for the numbers to beat expectations – as indeed they almost always do.

Much more questionable is whether the consensus is right to expect a rebound in earnings growth to +10% by year end as economic growth is set to remain sluggish and profit margins are coming under pressure from higher wage costs.

The rebound in equities appears in large part warranted by the shift in Fed policy and the reassuring data of late. Even so, we don’t believe further gains are really justified. Equity markets are currently all too willing to look on the bright side of life but only a few months ago it was a very different story. Government bonds are telling a much less rosy story than equities and are a reminder that markets can be fickle and significant uncertainties remain. We believe some caution continues to be warranted.

Leave a Reply