Equities and credit markets have rebounded since the US bank failures, led by Europe and tech-sector shares
The authorities' responses have reduced the risk of the banking sector issues spreading to other segments and regions
The fundamental economic picture has only slightly improved, not as much as implied by the current rally
Inflation remains too high for central banks to cut rates this year, weakening the main driver of the tech rally
However, the bearish investors’ position suggests that markets may continue to "climb the wall of worry" regardless
Equity market indices have rebounded by 5.5% to 8.5% since the mid-March selloff, triggered by US regional bank runs, with technology and European stocks leading the advance. These gains reflect investors' relief that the banking industry's current problems will not spread to other sectors and regions. Additionally, hopes that the Federal Reserve will cut policy rates by the end of the year have boosted growth stocks and tech shares. The prospect of lower rates raises the present value of future earnings, which clearly buoyed the growth/tech segment.
European equities, in particular, seem to be benefiting more from the reopening of China than other regions. The geopolitical relationship between China and some European countries appears to be less strained when compared to the US and some of China's Asian neighbors. However, financial shares have clearly suffered over the past few weeks, especially US regional bank shares. This wide dispersion of returns between sectors is the main feature of the recent relief rally (graph 1).
While last month's fears about a global banking crisis spreading were overdone, the current optimism also appears somewhat stretched. At the same time, institutions currently hold historically high cash and low equity quotas and remain cautious about the economy. This bearish positioning means that continued gains in risk assets are possible beyond what may
seem justified by fundamentals. As a result, we believe that counter-cyclical, opportunistic, and yet risk-conscious strategies are best-suited in such a market environment. We have been actively trading in and out of markets since March.
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