`Fed’s Tapering of Sugar Drip No Threat to Stocks’

(Bloomberg) – Investors should focus on equities and look beyond Federal Reserve stimulus, as gains will continue on improving U.S. private finances, the falling allure of bonds and an emerging-market recovery, JPMorgan Chase & Co. said.

Quantitative easing was not the sole reason for the almost 150 percent rally in the Standard & Poor’s 500 Index since 2009 as stock prices recovered before both the second and third rounds of stimulus began, Andrew Goldberg and Daniel Morris, global market strategists at JPMorgan Asset Management, said.

“Markets seem worried that less sugar from the Fed will hurt stocks,” Goldberg said in London on July 10. “But any tapering is in response to better economic data and markets will learn it’s better to be healthy and not need Fed medicine than it is to be ill and on pain killers. Earnings have been the real driver behind stock returns.”

The MSCI All-Country World Index slumped 8.8 percent from May 21 through June 24 as investor concern grew that the Fed will start tapering its $85 billion of monthly bond purchases this year and end them in mid-2014. The gauge has rebounded 6.8 percent since then. Fed Chairman Ben S. Bernanke said July 10 that the central bank’s monetary police will remain “highly accommodative.”

Analysts have consistently upgraded their estimates of earnings for S&P 500-listed companies since 2009. They increased their forecast of annual earnings per share from $57.01 in May 2009 to $110.50 now, according to data compiled by Bloomberg.

The U.S. will continue to lead stock gains, as European shares lag because analysts haven’t upgraded their earnings estimates, and China’s economy struggles to stoke domestic-consumer demand, the analysts said.

Private Debt

The debt burden in the U.S. is shifting from individual and corporate borrowers to the government, Morris said. This will free up cash in households and companies, which can then increase spending and investment, he said.

U.S. household net worth surged to an all-time high of $71.3 trillion in the second quarter, according to Federal Reserve data provided by JPMorgan. This represents a 37 percent rebound from a low reached in March 2009.

U.S. treasury yields have risen in the last two months, with the 10-year note surging 111 basis points between May 2 and July 5, to the highest level since Aug. 1, 2011.

Rising Treasury yields have driven investors to sell bonds and buy stocks, Morris said.

Bond Outflow

The Investment Company Institute, the national association of American fund managers, estimates that long-term bond funds in the U.S. experienced a net outflow of $66.6 billion in the five weeks through July 2. Meanwhile, weekly estimated flows into equity funds have turned positive.

“There has been a dramatic outflow from bonds,” Morris said. “People have been selling government bonds and investment-grade corporate bonds. So a rotation is starting to happen.”

In emerging markets, stock valuations are compellingly low after they performed poorly relative to U.S. equities because of worsening economic data from China, Morris said.

The MSCI Emerging Markets Index has lost 10 percent so far this year, compared with a 17 percent gain for the S&P 500. The price ratio between the two gauges has dropped to the lowest level since 2008, according to data compiled by Bloomberg.

“As China rebalances growth and promotes domestic consumption, it has many more levers to stimulate growth” including a reduction in interest rates that are higher than in Europe and the U.S., Morris said.