How long can this rebound in US stocks last? Deutsche Bank: Four major obstacles ahead

After experiencing six consecutive weeks of gains, the S&P 500 index has achieved its strongest year-to-date performance since 1997.

At the same time, last Thursday, the U.S. investment-grade credit spread reached its lowest point since 2005, and the yield spread between Italian 10-year government bonds and German government bonds narrowed to the lowest level since November 2021.

As the market gradually digests these strong performances, can the future rebound continue?

In a research report on the 21st, Deutsche Bank analyst Henry Allen pointed out that the current market rebound may face four major obstacles, including overvaluation, saturation of growth expectations, geopolitical risks, and public debt issues. Investors need to remain highly vigilant about this.

Deutsche Bank believes that the S&P 500 index is expected to achieve annual gains of over 20% for two consecutive years, the first time since 1997-98; however, considering the above four obstacles, even though the global economic fundamentals are strong at present, given the recent market rebound momentum and the headwinds to come, caution is still necessary.

Obstacle One: Traditional valuation indicators are too high

Deutsche Bank pointed out that this year's strong bull market is the first time since 1997-98 that the S&P 500 index has achieved annual gains of over 20%.

However, despite the strong market performance, traditional valuation indicators have issued warning signals. Valuation indicators such as the price-earnings ratio of the S&P 500 index are currently at historical highs, reaching similar levels only twice in the past century, both of which occurred before significant market corrections:

The first time was before the bursting of the 2000 Internet bubble, when the S&P 500 index fell for three consecutive years;

The second time was after the rebound following the 2021 pandemic, followed by a significant market decline in 2022.

The valuation levels in this rebound are already close to those of the Internet bubble period, indicating that the market may have priced in too much ahead of time. Deutsche Bank's analysis suggests that without stronger fundamental support, the market may face the risk of a correction in the future. This means that even though the market may still maintain its upward trend in the short term, based on historical experience, the current valuation levels are unlikely to sustain in the long term.

Obstacle Two: Saturation of growth expectations, no more growth surprises

In addition to valuation issues, Deutsche Bank also warned that the market's expectations for economic growth are already very optimistic, making it difficult for more "growth surprises" to occur in the future.

In 2023 and 2024, global economic performance exceeded expectations, especially with the U.S. economic growth surpassing previous market expectations. The economic growth forecast for the U.S. in 2024 has been raised from 1% last year to 2.6%, which is a positive signal for the marketHowever, Deutsche Bank pointed out that as the market's expectation of a soft landing has already been fully reflected in prices, there is limited further upside potential in the future. The continued upward movement of the market relies partly on the sustained better-than-expected performance of economic data, and once the momentum of exceeding expectations weakens, investors' optimism may be dampened, potentially triggering a new round of market volatility.

"Therefore, considering that risk assets have been supported by unexpected economic growth in recent years, the source of the next boost is not so obvious."

Obstacle Three: Escalating Geopolitical Conflicts Increase Stock Market Correction Risks

Geopolitical risks remain one of the important challenges facing the current market. Deutsche Bank specifically mentioned the tense situation in the Middle East, especially the recent escalation of conflicts between Israel and Iran, which has led to significant fluctuations in oil prices.

Deutsche Bank believes that a significant increase in oil prices may not only have a negative impact on global economic recovery but also raise market inflation expectations, thereby exacerbating stagflation risks.

Historical experience shows that stagflation risks typically exert significant pressure on the stock market and other risk assets, potentially leading to a significant market correction.

Obstacle Four: Rising Global Public Debt Levels Increase Debt Burden

Lastly, the fourth major obstacle mentioned by Deutsche Bank is the continuous rise in global public debt levels.

According to the latest report from the International Monetary Fund (IMF), global public debt is expected to exceed $100 trillion by 2024 and continue to rise through the late 2020s. The fiscal deficit in the United States is expected to remain between 7% and 9% during the period from 2026 to 2028, far above historical normal levels.

Deutsche Bank pointed out that such high levels of deficits have been rare in history:

"Until the 2020s, the only periods in which the United States had a 6% deficit were during major wars (the US Civil War, World War I, and World War II) or large economic shocks (the global financial crisis and the COVID-19 pandemic)."

Not only in the United States, but major European economies like France have not achieved fiscal surpluses since 1974, and debt issues have become potential risks in the global market.

Although the market's reaction to high debt levels is relatively calm at present, Deutsche Bank warned that events like the European sovereign debt crisis show that the market's response to debt issues is often nonlinear, and the critical point is not always clear in advance. With the rise in debt levels, this is likely to become an increasingly scrutinized area in the coming years