Recent business surveys have shown signs of an improving economy, Morningstar noted, with JP Morgan’s Global All-Industry Index hitting a 22-month high in January.
The research house said that while the economy seemed to be improving, “virtually every forecaster has also been pointing to higher levels of risk and uncertainty” and risks were tilted towards the downside.
“Oddly, however, from various perspectives, equity markets do not seem to be behaving as one might expect when risk and uncertainty are as high as they are currently,” Morningstar said.
“Investors continue to have unusually low expectations for volatility in the US share market, despite the obvious potential for large surprises, good or bad, from the Trump administration or from other unexpected events. The VIX index of the S&P 500’s expected volatility continues to trade at unusually low levels, as do measures of expected volatility in other equity markets.”
S&P estimated that the S&P 500 is currently priced 24.3 times historical earnings and 17.4 times projected earnings, Morningstar said.
“Perhaps the optimists will be proved right and growing momentum for the world economy will carry the day, and none of the economic, political or financial risks will prove material enough to derail the underlying support for improved corporate profitability,” the research house said.
“But at a minimum there are likely to be recurrent reality checks along the lines of those we saw on several occasions last year as investors revisit the likelihood of setbacks to currently optimistic expectations.”
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