Chasing The Rally Now Requires High Conviction

By Michael Msika, Bloomberg Markets Live reporter and strategist

With good news on interest rates and the economy priced into stocks at this point, chasing the rally could soon become a lot more difficult.

Fed officials tried to tone down excitement about rate cuts over the weekend, with markets starting to look seriously stretched. European stocks have jumped 11% since late October, with about two-thirds of Stoxx 600 members now above their 200-day moving average — although the level of bullishness is not yet extreme. And adding risk at the end of December is probably not on the cards for many investors.

For Societe Generale strategists led by Roland Kaloyan, an upside scenario has been supported by Fed Chair Jerome Powell’s comments on rate cuts, strong US jobs data and an unexpected drop in oil prices. But the strategists are warning against buying into the rally from here and recommend caution around a Goldilocks outcome where the job market and consumer demand remain resilient but inflation falls quickly.

“It is far easier for the market to price in the monetary policy impact — the Fed gave three cuts, the market is pricing in six — rather than the impact of inflation trends on revenues and margin,” Kaloyan says. “The market made a similar mistake last year by pricing in rate hikes but mispricing the impact of inflation on profits. The risk could be the other way around for 2024.”

Meanwhile, the ECB had a much less dovish stance than the Fed at its last meeting, which could mean a slower pivot in Europe than in the US. Final Eurozone inflation numbers later today will help set the tone this week.

Still, talk from central bankers won’t change investor positioning that much, according to Pierre Veyret, technical analyst at ActivTrades. “While some may think markets may have gone too high too quickly, investors will probably need more substantial evidence than just plain semantics that they were wrong with their dovish anticipations before bringing significant adjustments to their risk exposure,” he says. 

With that in mind, traders may seek refuge in technicals and watch how benchmarks behave around key levels. DayByDay technical analyst Valerie Gastaldy says that the next big level for the MSCI World index is an all-time high, which could be reached by the end of the year.

Still, “overbought conditions are a hanging sword,” she says, while also noting that softness in the market is possible after December’s option expiry.

Trading volumes also typically come down after the December expiry and as holidays approach, setting the scene for some slightly less predictable market moves and providing another reason for caution into the year-end.

“Recent developments point to a good year for stocks in 2024, even if the current enthusiasm seems somewhat exaggerated from a shorter-term perspective and a setback is highly likely,” says Unicredit strategist Christian Stocker. “The positives are priced in, sit back and enjoy the holidays,” he says.