The sharp de-rating in U.S. and global equities since early-October reflects an expectation that corporate earnings will contract next year. Our latest asset allocation research has examined this topic and related issues that have developed this autumn.
Our major conclusion is that investors have become too pessimistic on the economic outlook and, thus, on equities (and too optimistic on government bonds). Corporate earnings growth will slow in 2019, but a full-blown contraction is most unlikely given the generally supportive signals from most forward-looking economic indicators. The one exception to these positive messages comes from the flattening yield curve, which we view as being distorted by a number of factors, including depressed inflation expectations and an overly bearish cyclical economic consensus. A recession is inevitable, but the sharp reaction of the yield curve and equity prices are premature in our view.