The world's biggest investment banks are attempting to soothe any client fears of an imminent correction by assuring them that despite building risks, investors across global markets are merely showing "rational exuberance."
Morgan Stanley has entitled its global macro outlook for 2018 "Stronger for Longer," echoing the sentiments of Barclays and Goldman Sachs, which both released reports headed "Rational Exuberance" earlier this month.
Bearish calls against risk assets — which have staged an unrelenting 18-month rally since fears over a slowdown in China hit markets in early 2016 — have been proliferating in recent weeks.
But the banks are backing what they call a '"Goldilocks" scenario for investors in 2018, where both economic growth and inflation will be modest but constant.
"Apart from potential exogenous shocks — such as geopolitical tensions, financial accidents or political turbulence — we do not see an endogenous reason for an end to the current recovery materializing in 2018," said Morgan Stanley's global co-head of economics, Elga Bartsch. "The risk of the global economy or any of its major constituents running too hot over the next 12 months is contained."
Morgan Stanley expects inflation in the G10 to be just 1.9% in 2018 and 1.7% in 2019, alongside real GDP growth of 2.1% and 1.8%, a view based on easy financial conditions remaining in place for developed economies.
"Global excess liquidity is still expanding and financial conditions are considerably easier than they usually would be at this stage of the cycle," Bartsch said. "Only the Federal Reserve will actually shrink its balance sheet and engage in active quantitative tightening. All other key central banks — the European Central Bank, the Bank of Japan and the People's Bank of China — will likely expand their balance sheets, but at a slower pace."
The phrase "irrational exuberance" was coined by then-Fed chair Alan Greenspan during the dot-com bubble of the 1990s, and was used to describe current investor behavior by Bank of America Merrill Lynch strategist Michael Hartnett earlier this month.
Goldman Sachs' equity strategists dismissed this view in their 2018 outlook for U.S. stocks, published Nov. 21, pinning their forecasts to rising corporate profits aided by a much-anticipated tax reform plan from President Donald Trump.
"Our 'rational exuberance' rests on a combination of above-trend U.S. and global economic growth, low albeit slowly rising interest rates, and profit growth aided by corporate tax reform likely to be adopted by early next year," they wrote.
The Goldman Sachs team expects the S&P 500 index to advance by 11% to 2,850 by the end of 2018, provided tax reform succeeds, and they added that stocks were nowhere near the bubble territory Greenspan was bemoaning two decades ago.
"We would deem it 'irrational exuberance' if the S&P 500 during the next three years followed the exponential trajectory of stocks in the late 1990s," they wrote. "In that situation, the S&P 500 would trade at 5,300 by year-end 2020, a 105% rise from today."
