3,000 Days In, Bull Market Aging Gracefully
Global stock markets gains well earned, poised to continue
Global stock markets posted strong gains during the third quarter, which is often a seasonally weak period for risk assets. During a steady onslaught of new record highs for this bull market, the emotional temptation to sell and take profits has become ever more pronounced. Though the message from capital markets all year has been to “Keep Calm and Carry On,” skeptics point to geopolitical tensions in North Korea and the political dysfunction gripping Washington, D.C., as two major causes of concern.
Balentine’s unemotional, model-driven discipline continues to emphasize global stock market exposure as we begin the final quarter of 2017. Global stock market valuations have not yet deteriorated sufficiently to warrant a more cautious stance despite the substantial appreciation in prices given the current low interest rate environment. Moreover, equities continue to enjoy the tailwind of positive and broad momentum.
Our models are picking up on three favorable underlying trends:
- The global economy is enjoying synchronized growth across all regions for the first time since the Great Recession ended, with the U.S., Europe, Japan, and the developing world all growing in harmony;
- Stock market valuations have benefitted from strong corporate earnings results, meaning the lift in equity prices has been fueled by earnings growth, especially in international markets, rather than irrational or unjustified exuberance; and
- Despite the likelihood that the Federal Reserve will raise interest rates again and begin to unwind its $4 trillion balance sheet, inflation expectations are well anchored. Therefore, long-term interest rates remain low and look set to rise slowly and steadily.
Within global stock markets, international developed and developing market equities have added value, boosted by a weakening U.S. dollar. International equities have lagged the gains in U.S. markets since the bull market began in 2009, but seem poised to narrow the gap as this cycle continues.
The U.S. stock market has not experienced a correction of 20% for more than 3,000 days now. While some may be concerned about an aging bull market, this year’s price gains have been well earned and should continue as long as:
- Underlying economic growth and corporate earnings continue to improve;
- Interest rates rise slowly and gradually; and
- Geopolitics remain stable.
A disciplined cash policy and an intelligently diversified strategy remain the first lines of defense against such risks.
The fourth quarter may be influenced by two important wildcards. First, it appears tax reform may have finally arrived. Markets have become so numb to political dysfunction that any signs of forward progress on tax reform may be a further boost to global stock markets. With mid-term elections now only a year away, politicians will do what politicians do well—focus on delivering something popular in order to get re-elected; this may result in greater compromise. Any benefits for companies (including lower corporate tax rates and incentives to repatriate cash) will lead to a substantial increase in corporate earnings expectations for 2018.
The second wildcard is whether current Fed Chair Janet Yellen will be reappointed to another term or will be replaced by someone who represents a more “hawkish” view on interest rate normalization. Any suggestion that the Fed will tighten monetary policy too quickly will be viewed negatively by equity markets. For now, the yield curve remains positively sloped and is a long way from inverting (short rates exceeding long rates), and corporate bond spreads are not trading above historical averages—two reliable signals from fixed income markets which would signal that the Fed was potentially removing the punch bowl from the party too quickly.
Developments on fiscal and monetary policy issues are likely to make many headlines over the balance of the year. Given the unusually long period of calm which has befallen capital markets, many are worried a global stock market correction is imminent. Our discipline is designed to cut through the noise and guide our policy unemotionally. We remain on guard to take decisive action to reduce risk if we receive signals that equity markets have become vulnerable to an extended and deep downturn. For now, we feel as though the gains are deserved and that this aging bull market is showing no signs of slowing down.