Wall Street: All-time high before the fall

Be it the S&P 500, the Nasdaq Composite, the Nasdaq 100 or the Russell 2000, all important US stock-exchange barometers are only a few points blow their record highs. It will probably take only a few more days before they reach their old record levels. Only the dinosaur Dow Jones Index, which is based on an outmoded index concept (averaging the share prices of the 30 members!), is well below its all-time high, which is still a good four per cent away.

The share price volatility of American equities as measured by the VIX Index has also fallen significantly recently. At a level of 10.6 points the world’s best known barometer for share price fluctuations recently hit the lowest level since January 2018.

This is surprising news for many investors, after all the global conditions indicate a deterioration of the situation on the equity markets. Monetary policy is becoming increasingly restrictive, economic growth is slowing outside the USA and Asia, and the danger of a trade war is souring sentiment.

So why are the share prices of US companies rising? – Actually a large part of the aforementioned constrictive factors appears to be priced into their share prices. Capital market rates will admittedly rise in the next few years, but we do not expect an interest rate shock in the form of steeply rising yields. This also applies to economic growth  – despite the increasing protectionism the signs continue to point to growth, as a glance at the global purchasing managers indices confirms.

At the moment, US companies are also looking brilliant thanks to the advantageous effects of the tax reform. On average the net profit of the S&P 500 companies increased by 25% in the second quarter. This is the biggest increase since 2010, immediately after the economic recession in the USA. The earnings boost thanks to lower taxes will not be repeated permanently so investors should get ready for lower growth rates again soon. However, a glance at the companies’ sales revenue growth, which has not been influenced by the tax reform, shows very good growth of ten per cent in the second quarter – so the strong US economy is supporting the upturn in the domestic equity markets.

Factor of uncertainty number one for the US markets remains an increase in tariffs between the USA and China, including indirect consequences such as imported inflation.  This applies especially to farming, industrial and automobile stocks, which have been able to widen their profit margins in the last few years thanks to the globalisation of their supply chains and falling interest rates. These could narrow somewhat in the foreseeable future.

With regard to the US equity market, however, it also needs to be borne in mind that the upturn on the equity markets is driven mainly by a few companies from key sectors such as technology, banks and the energy sector. These stocks are likely to be largely immune against rising capital market yields and increasing trade barriers so the US equity market should be a long way away from collapse.

The party mood in the US equity market will no doubt continue for some time yet and could also increasingly pull European equity markets up with it. The downswing will probably only come when the American economy suffers a setback.


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