Last week, we wrote that equity markets would need to see an improvement in global economic growth if they were to move higher. So, it was typical commentator’s curse that this week saw a rise in equities all over the world, despite no clear improvement in the underlying economic data. Even though we have not seen improvement yet, however, the rally suggests that capital markets see light at the end of the tunnel.
Certainly, the uptick in equities cannot have been due to company earnings. We saw an ever-so-slight pickup in earnings expectations for this year and the next – mainly for US businesses – but you would have to squint hard to see this as a trend. Rather, investors seem to have decided that equity markets have been right and bond markets wrong over the summer and now is the time to put their money to work – before the actual economic data improves and they miss the boat.
The current mismatch between market sentiment and company performance can be seen in equity valuations, which, despite mostly unchanged near-term earnings expectations, have moved back up towards recent highs. The economy has not changed, but confidence in it has. Or putting it in market terms, the majority of investors seem to have concluded that the gloominess emanating from rock bottom bond market yields over the summer was perhaps exaggerating the depth and tenure of the ongoing economic slowdown.