The faster than expected U.S. recovery following the reopening sparked concerns as headline inflation reached 13-year highs. While the return of inflation had been widely anticipated, there are divergent views as to whether inflation will be transitory or permanent. Most likely, some inflationary effects will be temporary and some more permanent.
The highly contagious Delta Variant that first emerged in India before becoming the dominant strain in most countries has cooled both growth and inflation concerns. Delta appears to have peaked, and along with increased vaccination rates, it is likely society will manage an endemic disease reassured by the knowledge that fully vaccinated persons rarely get severely ill. This will encourage a renewed willingness to engage in activity on both the consumption and production side of the economic equation.
Delta outbreaks have weighed on growth forecasts in the U.S. and many other countries, as have changes in Chinese policy that include redistribution of wealth and increased regulation. As a result, Q3 GDP forecasts have been slashed in the U.S. and elsewhere, although the base case is for a strong recovery in Q4 as Delta concerns ease.
As part of its support for the economic recovery, the Federal Reserve is currently buying $120bn of bonds per month. At its last meeting, the FOMC meeting indicated the committee would announce the start of tapering at its November meeting and that it will end eight months later in mid-2022.
The “dots” from the meeting showed that rate hikes are expected to commence in 2022 and will be followed by three hikes each in 2023 and 2024 - a more hawkish interest rate tightening cycle than the market generally expects.
As noted by Goldman Sachs, presuming the current rate of inflows ($605b YTD) continue into year-end, total inflows for 2021 will be almost 40% greater than the cumulative equity inflows of the prior 25 years!.
Additionally, there remains a tremendous amount of money invested in cash and bond funds. Should investors start to move funds out of these more conservative investments into equities, the pivot would support equities.
The S&P500 has made a record 54 new highs in 2021, refreshing the well-known TINA acronym for the phase “there is no alternative” other than equities. This is based on the idea that yields on fixed-income assets are so low that they are hardly worth owning.
September has this year lived up to its reputation of being the worst-performing month of the year for U.S. equity markets. From early to mid October, seasonality becomes a persuasive tailwind for the U.S. equity market.
Q3 Reporting Season:
During the first two months of Q3, analysts increased earnings estimates for companies in the S&P 500 for the quarter. This comes on top of a solid June quarter earnings season, raising concerns that the bar has been set too high.
The economic recovery has reduced the need for emergency monetary settings. However, Monetary Policy remains ultra-easy, and tapering of bond purchases is not monetary tightening.
It is worth nothing during the last U.S. taper from December 2013 to September/October 2014, U.S. stock markets rallied. Furthermore, rate hikes in the U.S. are still at least 12 months away and possibly up to two years away.
As such, the preference is for the S&P500 to continue higher into year-end once the current correction is complete. Aware that future corrections will occur and that some sectors will do better than others in specific environments.
Source Tradingview. The figures stated are as of the 6th of October, 2021. Past performance is not a reliable indicator of future performance. This report does not contain and is not to be taken as containing any financial product advice or financial product recommendation