Week Ahead: Equities Reach Fresh Records, But Structural Risks Persist

 | Apr 28, 2019 08:30AM ET

  • Rallies driven by earnings beats
  • GDP headline smashes expectations, but holds worrisome data
  • Hedge fund volatility shorts at record levels

    • Earnings beats helped U.S. equities finish the week with fresh records for the S&P 500 and NASDAQ. We're therefore upgrading our recommendation from “sell” to “hold.”

    However, we do this grudgingly. A number of concerns we've noted previously remain in effect: yields extended a decline, inflation continues to fall and the low participation rate is ongoing. Along with better than expected earnings, central bank 'intervention' and an outlook for the end of the trade war may have helped boost stocks to unprecedented heights, but the structural risks remain a concern.

    h2 Can Central Banks Actually Create Growth?/h2

    Friday's better-than-expected GDP may in fact illustrate this perfectly . While the headline number, 3.2%, blew right through expectations, a deeper drilldown reveals the boost came entirely from rising inventories, rather than sales, and exports (more on this below). However, both segments, inventories and exports, are expected to reverse soon. Also, consumer demand— which accounts for two thirds of the U.S. GDP—was weak.

    This, therefore, may be the single most important question for investors: can central banks create growth, as inflation remains low and an aging U.S. population consumes less as they grow older? Meanwhile, the core personal consumption slumped from an already tepid 1.8% to 1.3%, risking deflation a la Japan in the 1990s.

    As things stand, despite the Fed’s balance sheet having more than quintupled, from $800 billion in late 2008 to a peak of $4.5 trillion by 2015, inflationary pressures have remained dormant.