For those worried about rising inflation, last week’s economic data delivered fresh cause for concern. But, so far, most investors continue to look through such inflation concerns, with global stocks ending the week at a record high and the S&P 500 just 0.2% from its all-time high. Economists at UBS believe this confidence is justified by the positive economic backdrop, strong earnings outlook, and continued policy support.
Backdrop seen as benign for stocks
Economic data is pointing to accelerating growth, while the uptick in inflation looks narrow and likely to be short-lived
“Recent data remains consistent with our view that rises in prices have been confined to a few key inputs, notably energy and other raw materials. While there are media reports of bottlenecks for some items, the strong level of consumer spending shows that most goods are flowing along their supply chains. We share the view of Fed officials that such bottlenecks will clear as firms adapt to a reopening economy, while the base effects from an unusually weak 2020 will also fade. Meanwhile, indicators of growth remained positive, including the 559K jobs created by the US economy in May, up from 278K in the prior month and only modestly below the consensus forecast.”
The recovery in global earnings is in full swing
“The recent first-quarter results season was the best in at least a decade, driving large upgrades to consensus earnings forecasts. We think there are more upgrades to come and now expect global earnings to grow 38% this year (previously 31%). We’ve also lifted our US and Eurozone earnings forecasts for 2021 to 40% and 50%, respectively. Although equities have already performed well over the past year, this faster-than-anticipated earnings recovery supports further upside to markets, in our view. We also see Japan as being a major beneficiary from the global economic rebound, and we expect 40% earnings growth for fiscal year 2021 (ending in March 2022).”
Policymakers – both fiscal and monetary – seem willing to let economies run hot
“Fed Governor Lael Brainard reminded investors that the Fed is now pursuing an average inflation target. ‘It is critical to remember that inflation averaged less than 2% over the past quarter-century and that statistical measures of trend inflation ran consistently below 2% for decades before the pandemic,’ she said. Meanwhile, fiscal policy has prevented business failures and boosted private savings, allowing economies to bounce back early and aggressively. The European Union is delivering a boost of as much as EUR 800 billion over the next five years, with several individual countries including France and Italy adding additional stimulus. President Joe Biden is continuing to negotiate with Republicans over a USD 1.7 trillion infrastructure package, and recent reports suggest he is willing to accept a smaller increase in corporate taxes than originally planned.”