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Market Outlook: Markets are shedding inflation worries

Share prices were volatile again last week. Sweden’s OMXS30 index was down 0.3% between May 14 and May 21, while America’s broad S&P 500 index lost 0.4%. This week instead began with rising stock markets, which appear to have temporarily shaken off earlier worries about recent inflation.

Share prices were volatile again last week. Sweden’s OMXS30 index was down 0.3% between May 14 and May 21, while America’s broad S&P 500 index lost 0.4%. This week instead began with rising stock markets, which appear to have temporarily shaken off earlier worries about recent inflation.

Strong preliminary PMI figures

Preliminary purchasing managers’ indices (PMIs) for May were very strong, with a clear improvement in the service sector while the manufacturing sector has maintained momentum in most countries. This reflects continued robust business confidence, which is a promising sign for the post-pandemic economic recovery.

Discussions about phasing out bond purchases

According to the minutes of the US Federal Reserve’s latest meeting, which were published last week, a number of Fed policymakers support initiating a discussion about phasing out (“tapering”) the central bank’s stimulative bond purchases. In a speech on May 24, one Fed policymaker expressed concern that higher inflation in the United States may not be merely transitory – indicating a wide range of high-level opinions at the Fed.

On May 21 the White House unveiled a trimmed-down version of its proposed national infrastructure plan, costing USD 1.7 trillion instead of the previous USD 2.3 trillion. Whether or not this proposal will gain enough support in Congress to become law remains to be seen.

A global minimum tax on corporate earnings

The US Treasury Department has indicated that it will support enacting a global floor of 15% for corporate income taxation, in order to prevent an international “race to the bottom”. Although this is not the 21% level that President Joe Biden would prefer, it is closer to the 12.5% rate charged by such countries as Ireland and Cyprus.

Swedish home price upturn has slowed

According to figures from Valueguard, the month-on-month price increase for privately owned homes in Sweden slowed to 0.9% in April. Although it is too early to conclude that the sharp upward trend of the past 12 months (+18.9%) is ending – especially since the latest slowdown is consistent with seasonal patterns – it is only a question of time before this will happen. Sweden is re-imposing its mortgage principal payment requirement in August, and pay increases have been slow, two factors that should help put a ceiling on price increases later this year.

On May 18 we published the latest edition of the quarterly Investment Outlook report, in which our analysts present their forecasts for equities, fixed income investments and other asset classes as well as taking an in-depth look at various current trends. You will find the full report and several summaries in the link below.
Investment Outlook report (English)

 

Our market view

Recovery will support stock markets

Due in part to worries about inflation, stock markets have paused to catch their breath, but this development should be seen in light of their strong performance earlier in the year. The upside surprises that predominated in corporate earnings reports for the first quarter were not generally rewarded by higher share prices, but they still provide hope for strong earnings growth ahead. Also contributing to such hopes are robust macroeconomic statistics, especially purchasing managers’ indices.

Strong investor faith in a coming economic recovery is providing continued support to stock markets. Another contributing factor is that the upturn in US Treasury yields has levelled off somewhat in recent weeks. Most observers, including us, expect further small upturns in yields during 2021 and believe that sharp earnings increases among listed companies will provide sufficient support to share prices.

Excessively rapid and/or large yield increases may of course disturb this scenario. Likewise if production disruptions − such as the semiconductor and other component shortages reported by many companies − have an impact on corporate earnings. The quarterly report season that is now under way will be important to future share prices. Despite these risks and recent price upturns, we are sticking to our cautiously optimistic view of stock markets.

In our main scenario, we anticipate a clear economic recovery starting this spring or summer, with solid growth at least well into 2022.

In an economic recovery, cyclical value companies should be able to regain some lost ground, but looking further ahead the digitisation trend will continue to benefit growth companies. Sizeable worldwide investments in sustainability suggest that last year's strong performance for companies with this type of strategy may continue.

Share valuations today are undoubtedly high from a historical perspective, but can be justified by lower interest rates and bond yields as well as a strong earnings outlook. These high valuations limit upside potential in the long term, but they are rarely a good signal to sell in a short-term perspective.

Continued potential, though a lot has been priced in

Given today's low interest rates and yields, it is hard to find good alternatives to stock market returns. Meanwhile, central banks and governments have established a floor by promising continued stimulus.

This suggests that the growth picture will have to become much worse, causing downward adjustments in companies' earnings forecasts, and/or yields will have to climb much more than expected, for major stock market downturns to materialise. Recent market upturns naturally increase the risk of profit-taking, with downturns of 10% or perhaps 15%, yet we expect stock market indices to be a little higher this coming autumn than today.