Is high valuation justified and sustainable? Can the market rally continue to stretch? After the sell-off in recent days, market sentiment has somewhat changed, some investors even became more bearish about the outlook. Albeit the strong economy is supportive for the financial market, but the stubborn inflation makes the Fed policy path become more uncertain, rates cuts are by no means a sure thing. Amid this kind of environment, high valuation is increasingly becoming the fragility factor of the markets.
Title
Valuation
INSIGHTS
May 26 2024
surprisingly resilient
The IMF recently released its World Economic Outlook, in which it upgraded its global growth forecast slightly, saying the economy had proven “surprisingly resilient”.
- It now sees global growth at 3.2% in 2024, however it noted that downside risks remain, including regarding inflation and the increasingly uncertain path forward for interest rates.
- The Outlook also indicated that high corporate valuations could pose a significant risk to financial stability as market optimism becomes untethered from fundamentals.
optimism
Financial markets have been on a tear for much of this year, buoyed by falling inflation and hopes of forthcoming interest rate cuts. But that “optimism” has stretched company valuations to a point where that could become vulnerable to an economic shock.
The IMF does worry in some segments where valuations have become quite stretched. The IMF signaled the market was led by tech last year, but at this point, it’s really across the board that it has seen a run up in valuations. The IMF warned that there’s always this question, if a negative shock were to hit to what extent a readjustment of pricing would be seen.
TThere are several particular areas of concern, including credit markets where spreads are very tight even though borrower fundamentals are deteriorating; real estate, the IMF’s financing concerns also extend to the property market, and chiefly commercial real estate, which had grown “somewhat worrisome”.
inflation
After hotter than expected March inflation report, several Fed officials has changed their tones, that the Fed would keep rates higher for longer, and the odds of rate cuts this year become lower, also does not rule out the odds of no cuts. Federal Reserve Chair Jerome Powell also said that the U.S. economy has not seen inflation come back to target, adding to the unlikelihood that it will cut rates in the near-term.
The shift of narrative has shocked the markets heavily, resulted in a massive sell-off, and Mega7 were hit the most. On the flip side, the sell-off also reflected the fact that high valution is the fragility factor of the markets.
