Note Précis Feb 16, 2024: In Pushing Ahead Can Lie Market Folies – Capital markets folies in pushing the can ahead should be of concern. Data is reflected in steady/high rates for longer from the Federal Reserve, Bank of Canada, Bank of England and even the ECB despite its national spectrums. While China battles asset deflation and Japan prevaricates, many emerging countries have stoked currency risk. Momentum versus valuation imbalances extenuate the already flaring volatility.
Assuming financial lax did not lead to stability in the ancient and modern worlds. Fiscal deficits appear globally large. Elections loom and action is plodding. Meanwhile, vicious wars rage as do shadow jousts from the Arctic to Europe to the Indian and Pacific Ocean trading channels. As global template warning is the Congressional Budget Office report projecting the U.S. federal deficit increasing 50% by 2034, on interest and program costs. Also relevant today as global template is the shelved Simpson-Bowles Commission deficit reduction plan report. In the 1980s/ early 90s, strong central bankers stood up to politics and inflation while advanced and previously command economies developed monetary and fiscal restructuring. Restructuring included corporate and state sectors, led to reduced deficits and higher prosperity by the mid-1990s. Since then, the administrative and capital market emphasis for succor appears from monetarist machinations. Delayed focus on basics would elevaterisk premiums and chronic volatility.
In a replay of 2009 intto 2021 of momentum behavior, early 2024 contained a massive global upswing in fixed income, in equities and lessened pressure on exchange rates of major advanced countries. The capital markets have appeared to assume early administered rate cuts and via a rally in junk bonds, to underscore a risk view of solace from central bank puts. As credit analysis flows through fixed income and currency markets of central banks game play of higher for longer, risk premiums have likely more to rise.
On cyclically adjusted or even consensus earnings expectations, equity market P/E multiples are hardly low. At 20x P/E levels, the S&P 500 likely has expectations of long term sustained growth of 12% and for its coterie of equities leading this rally, expectations of 20% earnings growth per year. At an expansion phase, expectations being reduced and then beating consensus is less robust than earnings being revised upwards in cycle recovery. Further, crude oil prices, logistics and shipping costs appear as bifurcation drags to operations and end users.
Potential for equity valuation contraction exists from a risk premium around 200 basis points on top of a risk free rate of either 3 month T-Bills or slightly less on 10 year T Notes. In market cycles as seen in the nifty fifty in the 1960s, energy commodities in the 1970s, TMT in the late 1990s and salacious credit into 2007, it is not unusual for favored coteries to exert extreme momentum followed by rebalance. We would cap overall Information Technology as well as diversifying within and without. E.o.e.