By Laura Cooper, Managing Director, Head of Macro Credit and Global Investment Strategist at Nuveen.
Key takeaways:
- Earnings have held up, bank results have surprised to the upside and AI enthusiasm has returned. We’re favouring dividend growth for defense, infrastructure for inflation protection, and technology for AI exposure.
- Kevin Warsh’s confirmation hearing was interpreted as a reassuring signal, particularly around independence and policy continuity.
- Leadership uncertainty and the risk of looser fiscal discipline reintroduce a premium into UK rates, with the gilt curve poised to steepen.
Bottom line up top
Markets are facing fewer scenarios, not fewer risks. Any upbeat signals are seen as reasons to rally, looking through headlines to price in de-escalation. Brent crude remains near $100, the Strait of Hormuz is effectively constrained, and while the ceasefire has been extended, negotiations have stalled. Markets are treating the extension as a resolution, but it is not.
Markets are holding two contradictory beliefs – record highs and unresolved risk – and trading as though only one matters.
Equities: record rally, narrower reality
There is a coherent story behind the US equity rally. Earnings have held up, bank results have surprised to the upside – delivering ~14% YoY growth – and AI enthusiasm has returned. Credit markets are reinforcing that narrative with spreads retracing toward early year tights, and financial conditions remaining relatively supportive. Throw in the March retail sales print, the strongest in a year, and the narrative of a still-resilient consumer despite the gasoline price shock remains intact.
The strength is increasingly concentrated. Consensus expectations for ~18% S&P 500 earnings growth this year are being driven disproportionately by tech and financials, while broader growth remains less convincing. At the same time, high gasoline prices can erode real spending power and weigh on economic activity, challenging discretionary pockets of the market.
Earnings carry the burden of driving equities to fresh highs and reaching our year-end 7500 S&P 500 target. Any sign of margin pressure, softer guidance, or weakening consumer demand can test the rally’s conviction, keeping us favouring dividend growth for defense, infrastructure for inflation protection, and technology for AI exposure.
The Fed: reassuring tone, more complex reality
Kevin Warsh’s confirmation hearing was interpreted as a reassuring signal, particularly around independence and policy continuity. He avoided committing to a specific rate path and emphasized a measured approach to reducing the balance sheet.
What stood out more was his preference for trimmed mean inflation as a policy guide. It’s a gauge that strips out tail risks to assess underlying price trends. At 2.3%, it suggests inflation is close to target and could be used to justify rate cuts later this year. The Dallas Fed highlighted a key flaw of the measure, as flagged by our US economist: when price distributions shift from negatively to positively skewed, the gauge can understate inflation. That’s the current case of an energy shock pushing price pressures into the upper tail, so may be offering a cleaner signal than reality warrants at exactly the wrong moment.
Then there is the communication shift. Warsh is not a fan of forward guidance and did not confirm press conferences at every meeting. Markets are pricing roughly coin-toss odds of a year-end cut and we revised our own forecast to one cut in 2026 with an additional reduction next year. The testimony did little to shift market bets – but the disconnect of rate cuts uncertainty remains.
UK: currency strength, policy tension
The UK may be running its own version of competing beliefs: stronger currency, weaker fundamentals. Cable has rallied back above $1.35, but the domestic backdrop is softening – the March employment data revealed elevated inactivity, falling vacancies, and wage momentum easing.
At the same time, fiscal and political dynamics are reasserting themselves. Leadership uncertainty and the risk of looser fiscal discipline reintroduce a premium into UK rates, with the gilt curve poised to steepen. The latest CPI print adds to the pressures with an energy-led headline bounce, and surprisingly strong services highlighting the stickiness of inflation.
The Bank of England is caught between an inflation spike it cannot ignore and a growth outlook it cannot dismiss. Markets positioning for rate hikes remain mispriced, in our view. Further rate cuts coming next year remain the likely path, with our revised forecast calling for 50bps in easing, eventually driving the 2y yield below 3.50%.
Valuations at the long-end of the gilts curve are compelling after the recent back-up in yields. But the path to extending duration remains complicated. Elevated volatility and political uncertainty argue for more attractive relative value opportunities in the belly of the curve, particularly as rate hikes are gradually priced out. And sterling may remain rangebound, but as rate cuts come back to the table later this year and the real economy absorbs the energy shock, it is difficult to build a durable bullish case.
Bottom line
The dissonance cannot hold indefinitely. Markets have been remarkably effective at looking through risks – and may continue to be. But the list of risks is growing as resolutions remain elusive. At some point, the weight of what is being ignored could become the only one that matters.
