Wall Street comfortable around all-time highs, but beware! It may not be smooth-sailing ahead

The Citi US Economic Surprise Index, which measures data surprises relative to market expectations, has slid from 92.2 to 14.7. (Image: REUTERS)

Equity benchmark indices on Wall Street are still sitting near all-time highs even though different sectors and asset classes have seen some corrections recently. However, there could be headwinds ahead for US stock indices, according to Lisa Shalett, Chief Investment Officer, Morgan Stanley Wealth Management. “With multiple risks looming, as we shift from the early to middle stage of the business cycle, it’s as important as ever for investors to guard against complacency,” Lisa Shalett said in a blog post. The Dow Jones and S&P 500 are both up nearly 14% year to date. Tech-heavy NASDAQ has seen bouts of volatility but is still 8% up since January.

So far this year, we have seen 10-year bond yields surge higher and hence prices moved lower. Lisa Shalett highlighted that large technology and tech-enabled growth stocks are off 12% from their February all-time high, as measured by the NYSE FANG+ Index. She also said that the red-hot special purpose acquisition companies, or SPACs, are down 23.3% from their recent peak, as measured by the IPOX SPAC index and who could miss the recent sharp fall in cryptocurrencies.

The Chief Investment Officer sees three major corners ahead of Wall Street. The first of these is high inflation and higher interest rates. CPI and Producers Price index (PPI) readings were higher than expected. “While aspects of recent inflation are likely transitory, a number of secular shifts now underway suggest that higher prices could persist,” Lisa Shalett wrote. She added that higher inflation is accompanied by higher interest rates which may hamper equity valuations.

US economy has surprised some and some believe the recovery was on expected lines. But the positive surprises posted by the economy might not continue forever, as highlighted by recent data. The Citi US Economic Surprise Index, which measures data surprises relative to market expectations, has slid from 92.2 to 14.7. As upside momentum cools down marginally, growth would also decelerate, another risk for high flying markets.

Lastly, Shalett wrote that rising input costs and higher wages could put some pressure on earnings going forwards. “This could exacerbate less favourable on-year comparisons, as we move more than a full year beyond the onset of the pandemic in 2020,” she added. Apart from these three worries, Lisa Shalett said that the potential for higher taxes and central bank bond-purchase tapering, increase the odds of an equity market correction.