Although a short-term correction is likely, the current reflationary window should provide a tailwind for global equities in 2017.
We expect global equities to be higher in 12 months than they are today. However, the risks for stocks are tilted to the downside over both a shorter term horizon of less than two months and a longer-term horizon exceeding two years.
The near-term outlook is complicated by the fact that global equities are overbought, and hence vulnerable to a selloff. Our bullish sentiment indicator is stretched to the upside. Expectations of long-term U.S. earnings growth have also jumped to over 12%, something that strikes us as rather fanciful. Renewed rumblings in China could also spook the markets for a while.
We expect global equities to correct 5-10% from current levels, setting the stage for a more durable recovery. Once that recovery begins, higher-beta developed markets such as Japan and Europe should outperform the U.S.