Is The Market Heading For A Melt-Up?
A successful Trump-Putin meeting to end the Ukraine war and a dovish speech from Fed Chair Powell at the upcoming Jackson Hole annual retreat have the potential to drive equities higher, while disappointments here could lead to another consolidation. Standard Chartered remains constructive on risk assets over 6-12 months, the house prefers relatively inexpensive non-US markets, especially Asia ex-Japan equities, given stretched US equity valuations. SC also hedged against any tariff- or oil price-driven inflation risks through US inflation-protected bonds.
Tariff impact starts to show in US inflation: The latest trigger for the risk asset rally was the US consumer inflation report for July which eased concerns about a rise in goods inflation due to tariffs. Core consumer inflation accelerated to 0.3% m/m due to some volatile services sector components. Core goods inflation, at 0.2% m/m, was unchanged from June. However, the subsequent producer inflation report showed companies are starting to pay higher prices for tariff-affected goods, which are likely to be passed on to consumers. SC expects the impact on consumer prices to be temporary as a slowing job market curbs wage growth, the biggest driver of structural inflation.
Fed to start rate cuts in September: Against the backdrop of mixed US inflation reports, the focus is likely to turn to the decidedly weak US job market. There is one more round of inflation and jobs data due before the Fed meets on 16-17 September. Unless there is a spike in consumer inflation in August, the latest combination of weak jobs data and modestly high consumer inflation argues for the Fed to resume rate cuts in September. Besides the 25bps September rate cut, money markets are pricing one more 25bps rate cut by year end. Fed Chair Powell has a chance to confirm or push back against those expectations at his Jackson Hole speech on 22 August. Minutes from the Fed's last meeting, when two policymakers voted for rate cuts, would also be scrutinised closely.
Solid AI-driven earnings: Besides Fed rate cut expectations, equities have been fuelled by yet another strong US earnings season, powered by accelerating AI investments. Guidance from the AI-related technology and communication services sectors remains strong, with the two sectors expected to deliver 19% and 13% earnings growth over the next 12 months.
Watch US valuations: Strong earnings notwithstanding, the MSCI US equity index is trading at a 22x 12-month forward P/E multiple, close to its all-time high. A 12% earnings growth estimate for the next 12 months leaves little room for upward surprises, in our opinion. Investor positioning and sentiment indicators suggest there is still room for upside before they turn contrarian. In contrast, the MSCI Asia ex-Japan and China equity indices are trading at relatively attractive 13.8x and 12.3x P/E multiples, respectively. Given this, it would be prudent to reduce any US overexposure and rotate to Asia ex-Japan.
Staying bullish on China equities, especially the tech sector: Besides attractive valuations, Asia ex-Japan equities are benefitting from easing trade tensions after major US allies, except for India, reached preliminary tariff agreements with Washington. Easing fiscal policies in China and Europe should help offset some of the negative impact of tariffs. The extension of the US-China trade truce for three months and the relaxation of US curbs on semiconductor exports to China are providing tailwinds to China stocks, especially in the technology sector. The house remains positive on the Hang Seng Technology index.
Hedging inflation risks: The upcoming meeting between President Trump and President Putin to end the Ukraine conflict has the potential to ease a major headwind for European assets. An agreement would likely bring down oil prices, significantly easing inflation concerns. However, a deal is not guaranteed. We would hedge against upside risk to oil prices (if talks fail) through US inflation-protected government bonds.
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