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Stock markets: US inflation’s apparent peak has bulls running

An intensely polarised debate in America came to a climax this week. Forget about the midterm elections; it is about bears versus bulls. US stock markets rocketed the most since March 2020 on Thursday after the release of lower than expected inflation data there.

However, forward estimates for US company earnings have yet to follow suit. Without a drop in earnings, typically a fifth or more during recessions says Société Générale, it is hard to believe the end of the US bear market has come. Falling profits should lead to widespread job cuts, not just at high-profile tech companies. That would encourage a further pause in consumer spending.

Across all sectors there is precious little evidence of any tumble in profits. Even when the impact of energy producers is removed, US earnings per share should climb more than 7 per cent in 2023, according to MSCI data. Elsewhere, profit growth rates also slope positively.

Market behaviour and logic do not always reside together, however. Writing in the Financial Times early this week, Ruchir Sharma of Rockefeller International asked — almost heretically — whether a US (and global) recession would even occur. A vertiginous path for the US price inflation rate could pause. The US Federal Reserve would then rethink its aggressive stance on raising interest rates.

Market optimists can make a case that the bad news is priced in. Investor sentiment has recently registered zero out of 10, according to Bank of America’s sentiment indicator, as cash levels in portfolios climbed steadily this year. In this environment, hair-trigger reactions to the slightest good news are possible.

Yet even if inflation moderates, it could prove sticky and get entrenched, says Alberto Gallo at Andromeda Capital Management. The chances that it plummets, the dollar weakens and corporate earnings stay bulletproof are slim. When profits have dropped and employment markets have loosened, only then should the bear market come to a close.

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