Is the end of the stock market sell-off imminent? These three "silver lining" Allianz market expert Mohamed El-Erian sees on the horizon

• El-Erian speaks of a “more than painful” first half of the stock market year

• The expert sees three factors as grounds for cautious optimism

• El-Erian expects positive long-term consequences from the new interest rate environment and the stock market crash

In financial circles, Mohamed El-Erian is regarded as one of the best experts on international markets. The American with Egyptian roots has held many high positions: El-Erian worked for fifteen years at the International Monetary Fund, headed the multi-billion dollar Harvard University fund and was CEO of the US investment company PIMCO. He is currently Chief Economic Advisor at Allianz and also writes numerous market analyses, including for “Bloomberg”, the “Financial Times” and “Yahoo Finance”. In view of his many years of experience, it is little wonder that his regular assessments of the stock market situation attract a great deal of attention.

El-Erian comes to a clear conclusion about the first half of the stock market year

In his most recent contribution to “Bloomberg News”, El-Erian summarizes the first six months of the year and at the same time gives a hopeful outlook for the second half of the year. The Allianz consultant finds clear words for the stock market development from January to June 2022: “To say that the first half of the year was painful for investors would be a gross understatement. They suffered large losses in their holdings of equities, corporate bonds, emerging markets, cryptocurrencies and other assets; and for most of the past six months they have not received the protection of government bonds, whose traditional risk mitigation properties have also given way to large losses,” said the expert. Investors could only have achieved stable gains in the first two quarters for a few commodities and related stocks – but this would do little to change the “gloomy overall picture”. After all, investors could have most of their pain behind them, suspects El-Erian.

El-Erian recognizes these three hope-giving factors

El-Erian sees three signs that could point to an imminent recovery of the international stock markets. Firstly, an attractive risk/return profile can be seen in individual stocks. The year-long, from the expansive monetary policy The stock market boom that was fueled had inflated company valuations. The excess funds would have promoted speculative excesses, the fundamentals of the corporations would have played far too little of a role for years, judges El-Erian. The Allianz consultant sees a positive development in this regard: the flood of money came to an end in 2022 and the market is approaching a fair valuation again. He sees increasing opportunities to get started again: “Some prominent individual stocks are already in the oversold area after they were technically contaminated by the general sell-off due to declining liquidity,” said El-Erian.

A second positive aspect is the signs of easing on the bond market. Interest rates on 10-year US government bonds have stabilized at just under three percent since May. The yield on German Bunds has also not increased in recent weeks. As a result, the prices of the bonds, which always run counter to the yield, also consolidate. The enormous pressure to sell bonds between January and April thus appears to have been averted, at least for the time being. According to El-Erian, this should not only be interpreted as a good sign for more conservative investors who are looking for protection in the supposedly safe bonds. This also has a positive effect on the broad overall market. Incidentally, El-Erian isn’t the only one who expects the bond market to calm down. Other analysts such as Matt Smith, Investment Director at Ruffer, or Steve Wyett, chief investment strategist at BOK Financial, also assume that most of the damage in the bond market has now been done. They expect a trend reversal soon. The easing in the bond market could ensure a recovery on the stock markets to the extent that many economists see a direct connection between these two segments of the capital market.

According to El-Erian, the third “silver lining” is that in recent trading days there has been a “return of the traditional inverse correlation between the price of government bonds (the ‘risk-free asset’) and that of stocks (‘risky’)”. An important reason for this is that the “three risk factors occurred one after the other and not at the same time.” The stock market crisis would have started with the “interest rate risk”, i.e. the fear that the Fed could raise the key interest rate sharply in view of the stubborn inflation. This proved to be true and led to the second risk factor, the “recession risk”. The fear of investors is that the Fed would choke off the economy, which is actually doing well, by raising interest rates and causing a recession. However, according to El-Erian, there is a third risk factor: “The longer these two risks persist, the greater the possibility that the third, even more damaging risk factor will materialize: stress on the functioning of the markets.” In the past few months, the market has taken into account and possibly priced in all of these risk factors. The 63-year-old believes that this could possibly help the capital market to calm down again after the turbulent months.

El-Erian: Stock market crash due to Fed monetary policy could have long-term positive effects

Despite the cautiously optimistic outlook, El-Erian emphasizes that given the highly dangerous situation, investors must continue to expect “an unpleasant, bumpy and unsettling journey”. However, the destination of this trip can inspire confidence, as El-Erian can see a lot of positive things in the stock market sell-off: “For long-term investors, it will prove to be advantageous over time that the markets are leaving an artificial regime that has been controlled by the Fed for far too long has been maintained and that has led to exuberant valuations, relative price distortions, misallocation of resources and to investors losing sight of the fundamentals of companies and states,” the market expert concluded in a forgiving manner.

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