Risk-On Prevails, Will It Last Longer?

Markets got a boost after the US CPI came in below expectations last week, but after Chinese data disappointed, is this a trend that can last?

The Shifting Economic Alignment

After inflation hit the lowest level since 2021, there is a new narrative about the US economy: Disinflation. That has bolstered expectations that the Fed has reached its peak of rate hikes and that the economy can avoid a hard landing. Stock markets around the globe continued to move higher through the latter half of last week. But that changed on Monday when China's GDP disappointed, leading to calls for even more stimulus measures to prop up the world's second-largest economy. Asian and European markets fell, but US shares advanced to highs not seen in a year as US treasuries rose.

In a sign of the times, Deutsche Bank cut its 2023 growth forecast in China from 6.0% to 5.3% this morning. Although it is still above the Chinese government's target of 5.0%, it fits a narrative of investors no longer seeing the post-covid rebound in China as potentially driving the global market forward. Analysts polled by The Wall Street Journal have lowered their expectations for a recession in the US to a 54% chance this year from 61% prior. The latest projections from the Atlanta Fed's GDPNow see Q2 growth in the US at an annualised rate of 2.3%.

The Challenges to Risk Appetite

The shift towards risk-on assets seems to follow a similar pattern that has boosted stocks: A generalised lack of breadth. Investors seem to be moving towards the next area or sector to grow to uncover returns instead of being content with expecting broad-spectrum growth. Tech stocks have led the way through the early part of the year as investors pile into one sector, exaggerating growth because investment is concentrated. Meanwhile, other areas in the markets have underperformed.

A similar phenomenon played out with the first earnings reports, where shares in large banks bounced on better-than-expected earnings. But the overall gauge of banks in the US underperformed, as investors crammed on the bigger names. There is a risk appetite but still a substantial amount of fear, which keeps investors from investing beyond areas experiencing growth. The sudden turnaround outside of the US following the Chinese data - where China still grew as fast as the prior quarter but didn't grow faster - suggests investors are very quick to shy away at indications of trouble. A disruption in the upcoming US data or earnings flop, or a return of expectations that the Fed could keep hiking, could see risk appetite drying up very quickly.

Nasdaq Heading to Record HiIghs?

The Tech index appears to be heading towards record highs at 16770, where prices could receive a rejection for a full-blown reversal to the bottom of the long-term range at 10430 or break to fresh all-time highs immediately or after a pullback - be it a cup-and-handle or other type of correction. The latter scenario would imply the low completed a flag pattern, pending upsides past 20k.

In the shorter term, Nasdaq recently ended a pennant at 14920, with 15870 being the measured-move projection and shy of the 16k handle. Falling under the swing top of  15290 will raise the chances of further declines past 14690 while holding above will increase the probability of extending past 16450 and off to record highs.

Source: SpreadX

Key Takeaways

The markets experienced a boost after the US CPI came in lower than expected, leading to a narrative of disinflation and expectations that the Fed has reached peak rates. However, Chinese GDP data disappointed, resulting in calls for more stimulus measures. While US shares advanced to new highs, Asian and European markets fell. Deutsche Bank lowered its growth forecast for China, indicating a shift in investor sentiment towards the post-pandemic rebound. The shift towards risk-on assets follows a lack of breadth, with investors focusing on specific areas rather than broad-spectrum growth. There is still a substantial amount of fear, and any indication of trouble could quickly dry up risk appetite.