Equities Turn So Hot Even Central Bankers Are Taking Notice

Barclays' William Hobbs Says Keep Buying Stocks

Stocks have become so expensive that central bankers are weighing in again.

A chorus of policy makers has pointed to frothy asset prices this week, with the latest being Federal Reserve Chair Janet Yellen, who noted Tuesday that equity valuations are now “somewhat rich.” Stocks viewed on the basis of their estimated earnings are well above their 10-year averages in the U.S., Europe and emerging markets, while bond yields across the world remain near historic lows.

While valuations have stayed lofty for some time without triggering a selloff, they’re now also accompanied by a weaker global economic backdrop that has already prompted caution from strategists at JPMorgan Chase & Co. Having rallied more than 30 percent from last year’s low, the MSCI All-Country World Index is within points of a peak reached earlier this month.

“Central banks are effectively encouraging some rise in real bond yields,” Greg Gibbs, founder of Amplifying Global FX Capital in Breckenridge, Colorado, wrote in a note. “This is a warning to equity investors. Equities are already showing fatigue and are vulnerable to a significant correction."

That investors are hypersensitive to cues from central bankers was borne out this week, when assets across the board reacted to what were perceived as hawkish remarks from European Central Bank President Mario Draghi, before reversing some moves Wednesday as officials damped the speculation.

The Fed itself has repeatedly warned about elevated market levels since Yellen took over, and called stock valuations “quite high” in 2015. This time, a record number of fund managers also see equities as overpriced.

U.S. Stocks

Leading the pack is the S&P 500 Index, which trades at 17.5 times its members’ projected earnings, or about 23 percent above its 10-year average. While investors have yanked money from funds tracking U.S. stocks in favor of cheaper markets elsewhere, the benchmark touched an all-time high last week and has fared better than most European markets in June. Analysts predict S&P 500 profits will climb 12 percent in 2017.

All major U.S. equity benchmarks rebounded on Wednesday.

Global Assets

Whichever way you cut it, equities worldwide have rarely been this expensive since the financial crisis. The MSCI gauge is trading at more than twice the value of its members’ assets, near its highest multiple in nine years. By that measure, global stock valuations have soared 24 percent since a low just 16 months ago.

Earnings Outlook

What’s worrying some market watchers is that analysts have turned more negative on prospects for global company profits after 18 unbroken weeks of upgrades -- the longest stretch since early 2011. Cuts to earnings projections outnumbered increases last week by the biggest margin since November, according to a Citigroup Inc. index.

Economic Data

The caution stems from recent economic data, most notably in the U.S., where reports from durable goods orders to manufacturing have lagged expectations. The International Monetary Fund on Tuesday cut its outlook for the American economy -- saying President Donald Trump’s target of 3 percent growth looks unlikely -- just as the Fed prepares to to raise interest rates for a third time.

— With assistance by Blaise Robinson, and Paul Dobson

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