Global Weekly Commentary: Why we stay risk-on in the short term
In support of risk-taking
We see falling inflation, nearing interest rate cuts and solid corporate earnings supporting cheery risk sentiment. We tweak our tactical views and stay pro-risk.
Market backdrop
U.S. stocks hit record highs last week and 10-year yields fell as the Fed stuck with planned rate cuts. Japanese stocks gained on a cautious BOJ policy pivot.
Week ahead
U.S. PCE takes center stage this week. We see goods deflation pulling down overall U.S. inflation for now before inflation resurges in 2025.
Central bank activity last week gave markets the thumbs up to stay upbeat. That keeps us pro-risk in our six- to 12-month tactical views as Q2 starts. We see stock markets looking through recent sticky U.S. inflation and dwindling expectations of Fed rate cuts. Why? Inflation is volatile but falling, Fed rate cuts are on the way and corporate earnings are strong. We stay overweight U.S. stocks but prepare to pivot if resurgent inflation spoils sentiment. We up our overweight on Japanese stocks.
Broadening optimism
S&P 500 forward earnings expectations, 2019-2024
Forward looking estimates may not come to pass. Index returns do not account for fees. It is not possible to invest directly in an index. Source: BlackRock Investment Institute, with data from LSEG Datastream, March 2024. Notes: The chart shows 12-month forward earnings expectations for the overall S&P 500 index and S&P 500 information technology stocks.
As Q2 kicks off, we still see a more supportive near-term backdrop for risk-taking. U.S. inflation has eased from its pandemic highs and growth has held up. And expectations for S&P 500 earnings growth for 2024 have been revised up to about 11%, LSEG data show. Earnings expectations are even higher for tech companies that markets see leveraging artificial intelligence (AI). See the orange line in the chart. Earnings expectations for the broader market are also on the mend (green line), with sectors except commodities and healthcare seeing earnings recover. Plus, the Federal Reserve reaffirmed its intention to make three quarter-point rate cuts this year, while lifting its growth and inflation forecasts. After the recent Fed signals, we believe the bar is high for market pricing of immaculate disinflation – inflation falling near the Fed’s 2% target while growth holds up – to be challenged.
Against that backdrop, we remain tactically overweight U.S. stocks. We think upbeat risk appetite can broaden out beyond tech as more sectors adopt AI, and as market confidence is buoyed by recent Fed messaging and broadly falling inflation. We still prefer the AI theme even as valuations soar for some tech names. Stock valuations are supported by improving earnings, with the tech sector expected to account for half of this year’s S&P 500 earnings, Bloomberg data show. That has led to a fall in price-to-earnings ratios – share price divided by earnings per share – for some companies, unlike in the dot-com bubble when they soared. To compare the periods, BlackRock’s systematic equities team analyzed 400 metrics related to valuations and other features and found that the number flashing red now is 50% lower than when the dot-com bubble burst in 2000.
Potential disruptions to our view
What would change our risk-on stance? First, risk appetite being challenged as markets shift focus from cooling inflation to inflation on a rollercoaster back up in 2025. We think it will settle closer to 3% as high wage growth keeps services inflation sticky. Persistent inflation pressures from mega forces, or big structural shifts we see driving returns, also call for a higher neutral rate – the interest rate that neither stokes nor limits economic activity – than in the past. We think the Fed’s nudged-up long-run policy forecasts are starting to reflect our view of rates staying higher for longer than pre-pandemic. Markets are not eyeing that outlook for now. Second, stocks could grow more sensitive to macro news as profit margin pressures mount.
As Q2 kicks off, Japanese equities become our highest-conviction tactical view as solid corporate earnings and shareholder-friendly reforms keep playing out. We add to our overweight because we think the Bank of Japan policy stance is supportive of local markets. The BOJ made clear that ending negative rates is about normalizing policy, not anxiety over inflation, and it pledged to limit spikes in long-term yields. We think the BOJ will act cautiously and not sabotage the return of mild inflation. We also up euro area inflation-liked bonds to neutral as market expectations for persistent inflation have eased.
Our bottom line
We see a supportive risk-taking environment for now, as inflation keeps falling and after the Fed reinforced upbeat sentiment. We stay overweight U.S. stocks and the AI theme. We go further overweight Japanese stocks.
Market backdrop
U.S. stocks climbed to all-time highs last week and U.S. 10-year Treasury yields slipped after the Fed stuck to its plans to cut policy rates three times this year even after lifting both its growth and inflation forecasts for this year. We think markets are underappreciating another change: the Fed nudging up its long-run policy rate. Japan’s Nikkei stock index hit all-time highs after the BOJ ended negative rates and lifted its yield cap. Yields on Japanese 10-year government bonds dipped slightly.
This week, we focus on U.S. PCE data, the Fed’s preferred measure of inflation. We think U.S. inflation can fall further toward 2% this year due to falling goods prices. Yet we see inflation on a rollercoaster back up in 2025, with inflation eventually settling closer to 3%. The Fed appears to be slowly adjusting to this view given its higher projections for policy rates two years out.
Week ahead
March 26
U.S. consumer confidence and durable goods; UK GDP; Japan services PPI
March 29
U.S. PCE
March 31
China manufacturing PMI
Source
Past performance is not a reliable indicator of current or future results. Indexes are unmanaged and do not account for fees. It is not possible to invest directly in an index. Sources: BlackRock Investment Institute, with data from LSEG Datastream as of March 21, 2024. Notes: The two ends of the bars show the lowest and highest returns at any point year to date, and the dots represent current year-to-date returns. Emerging market (EM), high yield and global corporate investment grade (IG) returns are denominated in U.S. dollars, and the rest in local currencies. Indexes or prices used are: spot Brent crude, ICE U.S. Dollar Index (DXY), spot gold, MSCI Emerging Markets Index, MSCI Europe Index, LSEG Datastream 10-year benchmark government bond index (U.S., Germany and Italy), Bank of America Merrill Lynch Global High Yield Index, J.P. Morgan EMBI Index, Bank of America Merrill Lynch Global Broad Corporate Index and MSCI USA Index.
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