Optimism Overtakes Everything in Markets Even as Recovery Stalls

(Bloomberg) -- Look at the economy and there’s grounds for concern, particularly after Friday’s hiring report. But the picture in bonds, stocks and commodities is fast becoming one of near unanimous optimism, as investors brace for the benefits of vaccines and stimulus.

It was there on Friday, when less-than-stellar employment data landed in a market where the reflation trade is in full swing. Long-dated Treasuries -- the ultimate haven asset -- sold off this week, pushing the yield curve to its steepest level since 2015. Breakeven inflation rates climbed to an eight-year high, breathing life into financial and energy stocks. And crude oil hit the highest price in a year.

The people who run companies are similarly enthused. Sentiment among corporate managers is running at an all-time high this earnings season, a study of conference-call transcripts by Bank of America found. Meanwhile, analysts increased their 2021 forecast for S&P 500 earnings by 3.6% to $170.3 a share in January -- a rate of upward revisions that except for the 2018 bump from tax cuts was the fastest to start a year since at least 2013, data compiled by Bloomberg show.

“Once calm returns and the path ahead becomes a bit more predictable, attention eventually returns to the fundamentals,” said Jim Paulsen, chief investment strategist at the Leuthold Group. “Fortunately, investors will be reconnecting with earnings just as they are poised to be stellar.”

The S&P 500 closed at a record Friday after data showed the U.S. economy added just 49,000 in January, missing expectations of 105,000. The softer-than-expected figures were seen as increasing the urgency behind President Joe Biden’s $1.9 billion coronavirus relief package, which took a major step forward with a vote in the Senate along party lines.

Beneath the surface, cyclical stocks -- those with earnings viewed as being more tied to economic swings -- revived their leadership role over the week. Energy shares halted a two-week slide, jumping 8.3% for the best performance in the S&P 500. The KBW Bank Index had its best week since November while the Russell 2000 Index of small-caps rallied the most since June.

Boosting financials was another leg higher in long-dated Treasury yields, with benchmark 10-year rates briefly touching 1.18%. With the Federal Reserve pinning short-term rates near zero while rising inflation expectations lift the long-end, the yield curve is forecast to steepen further -- a boon for banks stocks, which have been hammered by a relatively flat U.S. curve.

“We have record amounts of stimulus, we have short-term rates at zero, we’re starting to see the reflation trade being evidenced in the long-term part of the yield curve,” said Tony Bedikian, head of global markets at Citizens Bank. “The signs of reflation are gaining some traction here with just massive amounts of stimulus combined with a reopening of the economy.”

More than halfway into this earnings season, 81% of S&P 500 companies that reported have beat analyst estimates, a near-record pace, according to data compiled by Bloomberg Intelligence. Thanks to the solid performance, corporate America is returning to earnings growth earlier than expected after the pandemic-induced recession. Based on actual results and estimates for those that have yet to report, fourth-quarter profits likely increased 3.6%, compared with a decline of 9% that’s forecast a month ago.

“Now you have broadening earnings in places that haven’t had much earnings growth over the past few years and that’s what I think investors will be attracted to in 2021,” said Brent Schutte, chief investment strategist at Northwestern Mutual Wealth Management Company.

©2021 Bloomberg L.P.