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Investors may be tempted to reduce exposure to equities right now. After all, major stock indexes around the world, from the STOXX Europe 600 to the Dow Jones Industrial Average, have hit record highs in the last several weeks. And then there is the old adage “Sell in May and go away,” which suggests that investors should dump stocks during the summer and reinvest in the fall. I’m not a fan of seasonal investment strategies, and I don’t believe new market highs should necessarily be feared. Here are six reasons why I’m confident that stocks can move higher from here.
In my May 15 blog, I wrote that the most important data release last week would be the U.S. Consumer Price Index (CPI) data for April. That’s because U.S. disinflationary progress appeared to have stalled in the first quarter. The good news is that headline CPI was in line with expectations at 0.3% month-over-month and 3.4% year-over-year.1 More importantly, core CPI was 0.3% month-over-month and 3.6% year-over-year.1 The core CPI reading was the lowest since April 2021.1
And while at first blush the U.S. Producer Price Index (PPI) for April seemed hotter than expected, a closer look indicated a benign print. Further, U.S. retail sales came in lower than expected.
Taken together, this recent data indicates the U.S. economy has been cooling modestly and disinflationary progress has resumed. This should help increase the Federal Reserve’s confidence that it will be appropriate to begin cutting rates soon. And lower rates could push equities higher. Historically, in the 12 months following the start of the last seven Fed rate cut cycles, global stocks, as represented by the MSCI All Country World Index, have risen on average more than 6%.2 And if we were to strip out the rate cut cycle that began in 2007 as the Global Financial Crisis was just beginning, the average return for the MSCI All Country World Index is more than 10%.2
We needed to see a solid earnings season in the first quarter in order to provide a solid foundation for stocks to move higher. And by and large, we got that.
As I’ve mentioned before, stock buybacks are on the rise in many parts of the world. For example, just a few weeks ago, Apple announced plans to buy back $110 billion in stock. And European and U.K. companies have significantly increased their stock buybacks, with their buyback yields now at levels seen in the United States.
A 2021 study from Vanderbilt University Owings School of Business looked at 17 years of stock buyback activity and concluded that, beyond helping to increase share prices, stock buybacks also increased liquidity and lowered volatility.5
Yes, some U.S. stocks sport high valuations – although most of the high valuation “Magnificent 7” type stocks are arguably supported by high expected earnings growth – but many equities around the world have low valuations relative to their historical ranges. For example, Chinese equities are very attractively valued – they are currently at the very low end of their long-term cyclically adjusted price-to-earnings ratio (CAPE) range. And Japanese, emerging markets, European, and U.K. equities are all at or below their 10-year average CAPE.6
While valuations are rarely predictive of outperformance in the short term, in general low-valuation stocks have often realized upside potential with a catalyst or catalysts such as better-than-expected earnings or some form of policy support. In other words, low valuations and positive surprise can be a powerful combination. I believe it is likely that non-U.S. stocks and smaller-cap stocks may perform better as rate cuts unfold and we near a global economic re-acceleration.
As I have said before, there is a significant overweighting to cash on the part of some investors, both retail and institutional. That excess cash sitting on the sidelines is likely to start moving to fixed income and equities once the start of rate cuts appears imminent. This could be a powerful catalyst for equities.
As a reminder, U.S. money market assets peaked in the fourth quarter of 2008 before dropping significantly. It seems no coincidence that cash moved off the sidelines just as stocks began a strong and lengthy rally in March of 2009.7
It seems that geopolitical risks have multiplied in the past several years. However, investors seem to be reacting to geopolitical risks not by eschewing risk assets such as equities but by including perceived geopolitical risk hedges such as gold in their portfolios. The use of geopolitical risk hedges seems to have enabled investors to be comfortable maintaining exposure to equities.
In fact, gold hit a new record high on May 20, likely helped by news of a Houthi attack on an oil tanker over the weekend as well as the death of the president of Iran in a helicopter crash, either of which could add to tensions in the Middle East. But that does not seem to be dragging down stocks.
While positive on equities, I recognize that there are certainly risks to watch this year. I think we could certainly experience one or more stock market pullbacks this year as expectations around monetary policy can change very quickly. That’s okay and could be healthy as it may present entry points to add to equity exposure.
I do suspect that we are close to the start of a sustainable broadening of stock market participation. I hope this serves as a reminder to revisit stock portfolio weightings to ensure adequate exposure to small-cap and non-U.S. equities.
Kristina Hooper is Chief Global Market Strategist at Invesco.
Notes
1. Source: US Bureau of Labor Statistics, as of May 15, 2024.
2. Source: Bloomberg, L.P. The starts of the last seven Fed rate cut cycles were June 9, 1989; July 7, 1995; Sept. 29, 1998; Jan. 5, 2001; Sept. 21, 2007; Aug. 2, 2019; March 6, 2020.
3. Source: Factset Earnings Insight, May 17, 2024.
4. Source: LSEG I/B/E/S, as of May 14, 2024.
5. Source: Center for Capital Markets Competitiveness, “Corporate Liquidity Provision and Share Repurchase Programs,” by Craig M. Lewis and Joshua T. White, Vanderbilt University, Sept. 24, 2021.
6. Sources: LSEG Datastream and Invesco Global Market Strategy Office. Asset classes represented by the MSCI China, MSCI Japan, MSCI Emerging Markets, MSCI Europe, and MSCI UK indexes.
7. Source: Board of Governors of the Federal Reserve System through Dec. 31, 2023, as of March 7, 2024.
Disclaimer
© 2024 by Invesco Canada. Reprinted with permission.
This does not constitute a recommendation of any investment strategy or product for a particular investor. Investors should consult a financial professional before making any investment decisions.
The opinions referenced above are those of the author as of May 20, 2024. These comments should not be construed as recommendations, but as an illustration of broader themes. This does not constitute a recommendation of any investment strategy or product for a particular investor. Investors should consult a financial professional before making any investment decisions.
Forward-looking statements are not guarantees of future results. They involve risks, uncertainties, and assumptions; there can be no assurance that actual results will not differ materially from expectations. Diversification does not guarantee a profit or eliminate the risk of loss. All investing involves risk, including the risk of loss.
Diversification does not guarantee a profit or eliminate the risk of loss.
All figures are in U.S. dollars.
This does not constitute a recommendation of any investment strategy or product for a particular investor. Investors should consult a financial professional before making any investment decisions.
All investing involves risk, including the risk of loss.
Past performance is not a guarantee of future results.
In general, stock values fluctuate, sometimes widely, in response to activities specific to the company as well as general market, economic and political conditions.
Commissions, trailing commissions, management fees and expenses may all be associated with mutual fund investments. Mutual funds are not guaranteed, their values change frequently and past performance may not be repeated. Please read the simplified prospectus before investing. Copies are available from your advisor or from Invesco Canada Ltd.
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