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'Mini-Bubble': Barclays' new stock market outlook is unsettlingly bullish

Sam Ro
Managing Editor
A trader blows a chewing gum bubble as he works on the floor of the New York Stock Exchange shortly after the opening bell, in New York, June 15, 2015. REUTERS/Lucas Jackson

Characterizing the stock market as a bubble is unsettling for investors because bubbles pop. But that’s the direction where we’re headed, Barclays says.

“We believe that the ‘Mini Bubble’ scenario is now the most likely,” Barclays U.S. equity strategist Maneesh Deshpande said in a note to clients on Wednesday.

Deshpande’s assessment is based on the expectation that the Federal Reserve will ease monetary policy as “the weakness in global manufacturing continues unabated” and inflation remains subdued.

“Fed easing during past soft patches has resulted in substantial valuation-driven equity rallies,” Deshpande said.

“Valuation-driven” rally is another way of saying stock prices are going up without a concurrent increase in earnings growth. According to Goldman Sachs, 92% of the S&P 500’s (^GSPC) rally this year has been driven by valuation.

“Investors feel comfortable putting more of their money at risk in surfing what has been a remunerative multi-year liquidity trade,” Allianz’s Mohamed El-Erian wrote in a piece for Yahoo Finance this week. He too attributes the Fed and its central bank peers for the “decoupling of elevated asset prices from more sluggish corporate and economic fundamentals.”

If the “Mini Bubble” were to happen, Deshpande estimates the S&P will surge to 3,260 by the end of the year. While this is his base case scenario, he assigns a 65% probability of a “melt-up/mini-bubble” actually happening, and so he has an official S&P target of 3,000 (previously 2,750) with a somewhat stretched price/earnings ratio of about 18.

The S&P closed at 2,995 on Wednesday.

Sam Ro is managing editor at Yahoo Finance. Follow him on Twitter: @SamRo

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