Mardi Gras Markets?

Feb 10, 2017 / By BlackRock

Laissez les bon temps rouler

The season of Carnival celebrations is upon us, a burst of exuberant revelry, parties and parades, which is then followed by a long period of atonement and penance. Investors seem to have taken the dual nature of the season to heart, demonstrating a strong desire to let animal spirits reign—despite a somber realization of the risks ahead.

Second line

U.S. stocks have taken a bit of a breather from their upward climb after the Dow Jones Industrial Average crossed the 20,000 milestone. Initial enthusiasm for the Trump administration’s policies appears to have waned, with investors taking a more tempered view of the impact and timing of those measures. The odds of a trade war with one or more trading partners have risen, poorly executed executive orders have been issued, and there has been a realization that tax reform will take months to enact, with a long transition likely.

Bead tossing

Nevertheless, we still see the driving force for the markets as reflation: moderately rising economic growth coupled with accelerating inflation driven by expectations of fiscal stimulus. Include strong investor sentiment and it brings to mind “Hey Pocky A-Way,” the classic Mardi Gras song celebrating “feel good music.”

Iko Iko

The reflationary environment suggests both potential winners and losers. Among the winners: value equities, helped by gradual increases in interest rates and a steeper yield curve, and small caps, buttressed by higher growth and reduced regulation. The potential losers include Treasuries and bond proxy equities like utilities.

King cake

Still, given the high valuations of U.S. stocks, investors will need to dig deeper to find opportunities in this market. Although there are pockets of value in the United States, we prefer looking overseas in Europe, Japan and select emerging markets in Asia.