The year 2023 was initially projected to be the “year of the bond,” with expectations of a rally driven by the end of aggressive Federal Reserve rate hikes and a pivot to easier policies. However, the reality has been far different, as a surge in demand for equities has unleashed a powerful global rally, leaving bonds in the dust. This unexpected market shift has made investors more optimistic about stocks than at any point in the last 24 years, according to SentimenTrader models.
The US economy has shown resilience, with inflation slowing while new jobs are being created and economic growth continuing to accelerate. Even the prospect of a recession has diminished, as the Federal Reserve maintains a cautious approach to rate hikes. This surprising reversal has led to sell-side strategists issuing mea culpas, upgrading their stock targets, and revising their recession forecasts.
More than half of the surveyed clients from JPMorgan Chase & Co. now believe the US economy can continue to expand despite the rapid rate hikes, favoring so-called “soft” or “no landing” scenarios. This has led to an increase in the number of investors planning to boost equity exposure at the expense of bonds.
Discretionary investors, who allocate cash based on their economic views, have significantly increased their pace of stock buying, rivaling the enthusiasm seen at the time of the vaccine announcement in late 2020. Exchange-traded funds also show a clear preference for equities over fixed income in the past three months.
While bond predictions for this year have not been entirely wrong, with positive returns across the curve and attractive yields, equities have delivered remarkable gains, particularly the tech-heavy Nasdaq 100, which has surged 44%. This unexpected outperformance has caught many Wall Street professionals off guard.
The current market favorite is the “soft-landing” scenario, but it’s not without risks. The lagged effects of the Federal Reserve’s rate hikes and the potential for a selloff in tech stocks remain concerns. Additionally, positioning is skewed to the upside, which means any pullback could lead to a larger fall.
The market sentiment shift appears to be enduring, with corporate insiders showing strong buying interest, and technical indicators, such as subdued volatility and bullish options, contributing to elevated equity sentiment. SentimenTrader points out that similar wide gaps in sentiment between stocks and bonds were observed in 2003 and 2009, both preceding new bull markets. However, the market remains unpredictable, and investors must stay vigilant and adapt to the evolving landscape.