By: Linda S. Parenti, CFA - Chief Investment Strategist
My colleague, Ryan Johnson, did an excellent job of explaining Wall Street’s current focus on inflation in May’s Market Insights. This month I would like to address another growing concern, investor sentiment.
Although it has not been a straight path higher, the S&P 500 index has logged 29 new record closing highs year-to-date. Retail investors have perhaps been emboldened, as the financial channels continue to spotlight the parabolic moves of latest “meme” stock(s) targeted by the WallStreetBets and other Reddit crowd traders. Retail trading has made up an unusually high 20%+ of total trading volume this year. Wall Street analysts also seem optimistic as they continue to steadily increase earnings estimates for future quarters based on rising expectations for economic growth. And since equity prices reflect the outlook for future earnings, U.S. stock indexes continue to trade near record levels.
Perhaps the former Federal Reserve Chair, Alan Greenspan, would call this irrational exuberance. Should we be worried? To be honest, we may all feel some degree of enthusiasm now that our lives are getting back to normal. However, I would argue that investors are not behaving irrationally nor do markets appear overheated. On the contrary, many investors are still very cautious.
Admittedly, there have been pockets of excessiveness in individual names and industries. However, overall volatility has been modest. During the first quarter, 88% of actual earnings reported by companies beat already raised estimates by 19% on average. So, rising expectations for growth are being validated by company results. As a result, higher earnings are increasingly supporting the broader market valuations. Of course, the occasional pullback or correction can still happen, but reasonable valuations help limit the severity of those intermittent declines.
As you listen to the ongoing debates regarding inflation, the economy, and markets, bear in mind that we are coming out of a recession which was a pandemic-induced shutdown rather than one caused by weakness in economic fundamentals. Banks were well-capitalized going into this crisis. Both households and businesses had healthy financials and have continued to save. Household debt service ratios remain steady and personal savings rates are double their normal levels. The bottom line is both monetary and fiscal policy look to be very accommodative for the foreseeable future and consumers are flush with cash. This is a positive backdrop for equities, especially relative to the potential returns available from fixed income and cash assets.
Linda S. Parenti, CFA
Chief Investment Strategist
RISKS AND IMPORTANT CONSIDERATIONS
Views and opinions expressed here are for informational and educational purposes only and may change at any time based on market or other conditions or may not come to pass. This material is not a solicitation to buy or sell securities and should not be considered specific legal, investment, or tax advice. The information provided does not consider the objectives, financial situation, or needs of any specific individual. All investments carry a degree of risk and there is no certainty that an investment will provide positive performance over any stated period. Equity investments are subject to company specific and market risks. Equities may decline in response to adverse company news, industry developments, or economic data. Fixed income securities are subject to market, credit, and interest rate risks. As interest rates rise, bond prices may fall. Past performance is no guarantee of future results.