Global Stock Markets: Neutral Position In The Short Term

Half of the decline recorded in 2018 has been recouped

Three factors have driven the rise in stock markets, in our view: confirmation that the position of Jerome Powell at the helm of the US Federal Reserve was not threatened, the prospect of trade discussions taking place between the US and China in January, and continuing in February, and the very conciliatory tone of Jerome Powell at the end of the last Fed meeting. This more dovish tone has also been adopted by other central banks, including the European Central Bank and the Bank of Japan.

The stock markets have rallied against a backdrop of a further deterioration in the global economic environment and significant downward revisions of earnings growth forecasts. For example, according to FactSet, S&P 500 earnings growth forecasts for the first quarter of 2019 compared with the same period last year were 6.7% on 30 September. They were only 3.3% on 31 December; a 0.8% decrease is now expected. The first quarter would represent a trough in the earnings momentum. For the full year, the consensus forecasts a 5.3% earnings growth.

Now stock markets are at a crossroads. They had increased in relatively limited volumes, a sign of a low-conviction rise. They are facing a major resistance level, the 200-day moving average, which is on a downward slope.

We adopt a neutral opinion in the short term

 In order to continue their ascent, stock markets need support from fundamentals. These - whether economic data or the direction of earnings revisions - will need time to stabilise and initiate a change of direction. This is the message sent for example by the US CEO Confidence Survey, which is a good leading indicator of PMI indices, some of the most followed leading indicators.  Meanwhile, the political environment remains uncertain. In this context of no short-term drivers to give impetus to the rise, and in view of the many uncertainties and limited upside in stock markets in 2019, we adopt a neutral opinion in the short term.

A consolidation or a test of last December's low?

We retain the assumption of a consolidation. Various indicators point to this scenario, including the State Street's Investor Confidence Index. It is lower than at the beginning of 2009, when the current bull market had started, and lower than at the end of 2012, before a 15% increase in stock markets during the following 12 months.

Favouring this scenario over that of a return to the December low does not prevent us from adopting a neutral stance in the short term due to an unfavourable risk/return relationship. The upside for 2019 was initially estimated to be limited. It improved when the year began in a very oversold position. Let’s not forget that risks are clearly high. Not only is the economic environment very fragile but political uncertainty is increasing this fragility. The disappearance of these uncertainties could translate into a positive risk for stock markets. We will continue to watch this possibility.

As time goes by, the situation will become clearer and should confirm that fears of a recession are premature. These signs of a confirmation are expected to occur towards the middle of the year.

Another reason for a neutral opinion is the heightened volatility since the lows reached in 2017, among other thanks to the positive effects of central banks' monetary easing programmes. This increase in volatility is normal in the mature stage of the economic cycle. This is a classic development when the growth-inflation mix deteriorates, in other words, when growth decelerates and inflation excluding food and energy rises (albeit very slightly in the current cycle). Higher volatility and little upside potential in stock markets in 2019 require more frequent opinion adjustments.

Positive opinion maintained in the medium term

Our medium-term view remains favourable. Our conviction that recession fears are premature logically implies that earnings forecasts will remain favourable. On average, full-year profits are expected to grow by around 4-5% at the global level.  In view of valuation levels in line with long-term standards, stock markets should reach new highs in the second half of the year once confidence in the economic cycle returns.

What is the impact on our market preferences?

Our transition to a short-term neutral stance on the global stock markets concerns the direction of equity markets. It has no impact on the order of market preferences. We stick to our preference for the so-called pro-cyclical markets (emerging markets, Japan and the eurozone) as we retain a constructive opinion on the global economy and the direction of company earnings in the medium term.

Conclusion:
Stock markets are reaching an important resistance zone. Fundamentals would need to improve if the rally is going to continue. This will take a little time, making the markets vulnerable to a bout of weakness. We adopt a neutral opinion in the short term while maintaining a favourable medium-term view, based on our conviction that earnings will continue to grow in 2019. This upside potential is expected to materialise by the middle of the year.