Expectations of economic growth and profitability are still rising
Dr. Carlos Mejia, CIO, Rothschild & Co Bank AG and Kevin Gardiner, Global Investment Strategist
The global economy is regaining pre-crisis levels of GDP faster than consensus forecasts have suggested, and may continue to grow at an above-trend pace for a while. Expectations may still be too low.
The picture is not completely synchronized, and a new variant of the virus is now causing some countries to slow or partially reverse re-openings. However, vaccines are still being rolled out, adaptation to a more distanced world continues, and policy remains supportive. Business surveys at mid-year point to strong growth continuing into the third quarter at least.
The key US economy, which was already growing strongly, has received another large fiscal boost. Looking further ahead, President Biden’s plans for extra infrastructure spending are not as expansionary as they were, but will still support medium-term demand. More widely, despite ongoing bottlenecks, world trade has more than regained its pre-pandemic levels. China’s initial surge has faded, but it still has momentum.
This backdrop is delivering a big bounce in corporate profitability, and further opportunities in corporate assets, particularly equities, even after their strong run to date.
We always thought economies would be able to move back towards something approximating “business as usual”. But if economies normalize, so too eventually will policy settings. US inflation has revived, and may not be quite as “transitory” as the Fed suggests. The growing economy will eventually exert more pronounced upward pressure on real interest rates and bond yields.
As a result, 2021 is turning out to be better for people and business, but worse for bonds. At some stage, higher interest rate expectations may trouble stock markets too. But while stock valuations are historically on the high side, they are not prohibitively so, and remain relatively inexpensive when compared to bonds.
For now, the big central banks seem determined to keep policy rates low. If policy rates stay put, stocks can continue to outperform. Within the market, the rotation towards sectors most exposed to short-term (“cyclical”) growth, and away from some of those characterized by a focus on longer-term (“structural”) growth and defensiveness, has paused for a while, but may yet resume as the yield curve steepens anew.
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