SEI recently released its third-quarter Economic Outlook. A summary of the conclusions is provided below: 

• The current bull market in US equities is now the fourth-longest in duration since 1893. However, this cycle has a ways to go before setting any all-time records for either longevity or price appreciation. While US equity valuations are on the expensive side of the norm, the exuberance displayed by investors is of the rational variety.
• US equities appear relatively expensive when comparing the US cyclically adjusted price-to-earnings (CAPE) ratio with CAPEs of other countries. This is one reason we currently favour international equity markets versus US equities.
• 5%-10% declines in the S&P 500 Index, when measured in US dollars, typically happen a little more than three times a year and reflect investors’ over-sensitivity to the news of the day. Larger corrections usually have a sounder fundamental basis. For investors holding excess cash, we tend to view these as buy-on-the-dip opportunities—as long as we think the odds of recession are still low.
• The world is in a synchronized economic upswing for the first time in over five years, with a large portion of the world growing at a slightly better-than-trend pace. The breadth of the improvement is impressive, and above-trend growth will likely continue in the months ahead on a global basis.
• One of the most puzzling aspects of the US expansion has been the lack of wage pressure despite the seemingly tight labour markets across many areas of the country. Total labour compensation is near its lowest levels since before the mid-1960s, while corporate profit margins remain high and have shown little tendency to revert towards the mean.
• Every US recession in the past 60 years was preceded by a yield curve that turned flat (indicating a small positive difference between long and short rates) or inverted (when short-term rates rise above long-term Treasury yields). History would suggest that the yield curve is not yet tight enough to indicate an imminent recession.
• At this point, financial stress in the US is near its previous historical lows as measured by the St. Louis Fed’s Financial Stress Index. While one can’t rule out a pop higher from these low levels, it would take a major event to bring the index to a point consistent with high financial stress and recession.
• The recent drop in the US dollar coincides with the better global macroeconomic outlook. Although US policy is further along the tightening path, other central banks have begun to raise policy rates or may do so soon.
• Futures markets indicate an expectation of just one or two more rate increases by the Federal Reserve (Fed) before the end of 2018. A truncated tightening cycle would not be unprecedented, but would be highly unusual when the economy is in its eighth year of expansion and the unemployment rate is notably low.
• The central bank with the greatest policy challenge is the Bank of England. It is facing an accelerating inflation rate at a time when overall economic growth has been somewhat below that of the US and eurozone.
• At this point, we would need to see more aggressive tightening by the Fed and other central banks before concluding that a bear market is on the horizon. Such a policy change probably won’t materialize until inflation accelerates more convincingly.

A full-length paper is available if you wish to learn more about this timely topic.

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