The global economy is on the mend. Measures of current activity are rebounding, as are a variety of leading economic indicators.
Investors have taken notice: Market-based inflation expectations have risen, as have growth-sensitive commodity prices. Earnings growth expectations have surged, rising in the U.S. to nearly the highest level in a decade. Cyclical stocks have also bounced back, after having lagged the overall market for five years.
We agree with the market’s positive re-rating of global growth prospects, but worry that undue pessimism is starting to give way to excessive optimism. Two potential developments in particular could end up giving investors pause: a slowing of China’s economy later this year and the possibility that U.S. fiscal policy will end up being less stimulative than expected. Please see the next two Insights.