After the drop towards the end of October, equities have staged a stunning rally in the last eight weeks. Of note, we got to observe fresh record highs in the Dow, DAX, and CAC 40 among the major indices. The question now is, can stocks carry over the good form during this period into next year?
The key factor that traders have to recognise is that the latest rally is fueled by extremely aggressive rate cuts pricing in recent weeks. That especially for the Fed and ECB, with now 142 bps and 150 bps worth of rate cuts priced in for the two respectively for next year.
Unless either central bank plans on moving as early as March, this is about as good as it gets when it comes to traders pricing in any further dovishness. In other words, the major tailwind for the rally in equities has given all it can unless central banks give in further to market expectations.
So, does that mean that stocks are at their peak already heading into next year? Not exactly.
A soft landing in the global economy is an encouraging scenario but that is now less of a factor as major central banks are more focused on falling inflation. The latter is doing the dirty work in putting rate cuts on the table, so the economy is less of a concern at this stage.
However, central banks might have to be wary about the easing of financial conditions fueling more inflationary pressures in the bigger picture. But that is a separate discussion for another day.
As central banks are set to pivot on monetary policy, that could still invite more flows on the sidelines to join in on the party. According to the BofA fund manager survey, we’re not even close to peak bullish sentiment in markets at the moment.
h/t @ MikeZaccardi
For now, investors are only seeing sentiment improve to its best since January 2022. And that’s still some ways to go if you compare to the peak euphoria seen during the Covid pandemic when risk trades were soaring.
I don’t expect stocks to enjoy a straightforward time in 2024, not least with the possibility of more sticky inflation and risks of a more protracted slowdown in the global economy. But if we do see things play out as according to the market script, sooner or even later, then there is still an argument for stocks to stage a good showing in the year ahead.