Despite slowing growth, investors appear ebullient, pushing stocks to new heights. Nevertheless, BlackRock warns that economic data has to pick up to warrant the richer valuations in equities and exchange traded funds.
Fourth-quarter GDP growth was downwardly revised to 2.4% from 3.2%, with personal consumption, a large driver of U.S. economic growth, was also revised to a lower-than-expected 2.6%, Russ Koesterich, Managing Director, BlackRock’s Global Chief Investment Strategist, said in a note.
Durable goods dipped 1.0% in January after a significant decline in December, marking the first time the economy experienced two consecutive months of declines in durable goods since 2011. Additionally, the Chicago Fed National Activity Index has fallen to a six-month low.
On the other hand, the housing market is holding up remarkably well, even with the crippling winter storms.
“Despite the weakness in economic growth, investors have been bidding up stock
prices, causing valuations for U.S. equities to climb,” Koesterich said. “U.S. large-cap stocks are now trading at over 17x trailing earnings, close to the multi-year highs we saw late last year.”
U.S. stocks are rebounding Tuesday after the Ukraine-crisis induced sell-off Monday, with the S&P 500 jumping to a new record high.
The SPDR Dow Jones Industrial Average ETF (DIA) shows a portfolio price-to-earnings of 15.06, SPDR S&P 500 (SPY) has a portfolio price-to-earnings of 16.02 and PowerShares QQQ (QQQ) has a portfolio price-to-earnings of 20.66.
Koesterich also warns of similar trends in high-yield bonds where the yield spread between U.S. speculative grade debt and Treasuries is tightening.
“Investors are willing to accept increasingly smaller yield premiums to take on
additional risk,” Koesterich said.
The iShares iBoxx $ High Yield Corporate Bond ETF (HYG) has a 4.62% 30-day SEC yield and the rival SPDR Barclays High Yield Bond ETF (JNK) has a 4.98% 30-day SEC yield. [Junk Bond ETFs Gain Traction Despite Risk-Off Environment]
The run-up in riskier assets reveals investors’ confidence in the economy as more are betting on improving conditions ahead. However, investors should be wary if growth doesn’t manifest.
“This is not an unreasonable expectation, but if the economic data does not begin to improve, then stocks and other higher-risk assets may become more vulnerable,” Koesterich added.
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Max Chen contributed to this article.
Full disclosure: Tom Lydon’s clients own QQQ, SPY, HYG and JNK.
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