MSCI’s broadest measure of international stocks shows member companies trading at more than 19 times next year’s earnings. These kinds of levels haven’t been seen since the dot-com bubble burst in 2002. And what’s worrying is they come as millions of people are cast into unemployment by what the United Nations has called the most challenging crisis since World War II.
“The fact that the central bank of the world’s reserve currency is buying everything from government bonds to corporate debt is floating all boats,” said Devani. “The tipping point will be when there’s enough clarity on what the long-term impact of the virus is.”
That point hasn’t arrived and some stock investors expect eye-watering valuations for at least the remainder of 2020.
“Money pumped by central banks and governments will keep the PEs higher and we will have to work with that,” said Nader Naeimi, head of dynamic markets at AMP Capital. “PEs correlate with excess liquidity.”
Optimists suggest earnings may rebound to support the valuations but others are unconvinced.
Covenant Capital fund manager Edward Lim has downgraded his view of stocks to neutral and is on guard for more black-swan events.
“Finding tail-risk hedging strategies and uncorrelated returns have become even more urgent for us,” said Singapore-based Lim.
At the moment everybody is getting some sort of uplift. As we move through this phase, there will be a lot more differentiation between the winners and losers.
Pacific Investment Management’s Robert Mead
Nowhere is the Fed’s influence more pervasive than in the world’s biggest debt market. Its pledge to spend at least $US120 billion a month on asset purchases, and a possible return to the 1940s-era policy of yield-curve control, are anchoring interest rates on short-dated Treasuries near record lows.
At the same time, expectations for the economy to normalise has led to bets for 10-to 30-year yields to rise, leading strategists from Bank of America to Morgan Stanley to recommend so-called steepener trades.
Mark Nash, the head of fixed income at Merian Global Investors in London, is taking this as a cue to look at the strategy, which profits as yields for long-end bonds climb faster than those with shorter maturities.
“We’re nervous long bonds at these levels,” said Nash. “When things look better, when the macro data picks up and you can rely on it not being hit by another wave of the virus, then you start to sell Treasury bonds again.”
Playbooks are also getting reinvented in emerging markets – where asset prices are shrugging off a severe contraction in many economies. Again, that’s due to the role central banks are playing.
This trend is well underway in Indonesia where 10-year bonds have erased most of their losses from the coronavirus crisis. In India, the rally is even more pronounced with yields hovering near the lowest in more than a decade as the central bank scoops up bonds in the secondary market.
Both countries are projecting the worst economic growth in years, while also flooding debt markets with issuances to fund stimulus spending.
“Asia is again becoming a preferred destination amongst EM investors due to better fundamentals compared to other EM regions,” said Edward Ng, a portfolio manager at Nikko Asset Management Asia in Singapore.
Meanwhile, swings in foreign exchange are picking up again – another sign that investors can’t decide between fear over a second wave of infections and optimism that economies are starting to mend.
Nowhere has this been more evident than the Australian dollar, which plunged to an 18-year low in March then rebounded 28 per cent in the space of three months.
This is not the way currencies of developed economies typically move, said Jane Foley, a currency strategist at Rabobank in London.
“By the end of the year there is still significant risk of a nasty turn lower,” said Foley, cautioning that the Australian dollar could retest 60 US cents if investors recalibrate their expectations for global growth.
Volatility will also be prevalent in the US dollar, which is set to rebound from current lows as global growth improves, according to Stephen Jen of Eurizon SLJ Capital in London.
Using the “dollar smile” analysis, Jen expects the currency to “transit from the left side to the right side more swiftly than in any other cycle in modern history.”
That recalibration may be when markets return to a more normal state of affairs, and consensus forms over how to price assets in a world that has lived through the havoc wreaked by the coronavirus.
That may not come until 2022, going by Fed projections over when it could start raising policy rates again.
“At the moment everybody is getting some sort of uplift,” said Pacific Investment Management’s Robert Mead. “As we move through this phase, there will be a lot more differentiation between the winners and losers.”