Schwab, LPL Mid-Year Outlooks: Beware, Goldilocks Ahead

Given these tepid mid-year expectations, strategists are forecasting an annual growth rate for the U.S. economy between 2.3% and 2.6% in 2017. That's stronger than last year's 1.6% pace and the 2.2% recent projection by the National Association for Business Economists and the Fed, which released the median forecast of its board members and bank presidents at last week's FOMC meeting. First quarter growth was a mere 1.2%.

Strategists are also forecasting few gains in U.S. stocks. Year-end levels for the S&P 500, which closed Friday at 2433, range roughly between 2400 and 2500. That translates into a small loss or little if any additional gains in the S&P 500, which is already up 8.7% for the year-to-date.

U.S. stocks are considered overvalued based on P/E multiples of close to 15–year highs at 19 times on forward earnings for the S&P 500. They are further into their profits cycle and relatively expensive compared to stocks in the Eurozone, Japan and emerging markets, "the best-performing major asset class over the past 18 months," writes TIAA's Nick. He prefers international equities as the "U.S. cycle matures and the rest of the world catches up."

International stocks are supported by accommodative monetary policy, which is ending in the U.S., and stronger earnings—in the first quarter European firms'  earnings jumped 23% vs. 15% for U.S. firms,  according to TIAA's Nick—as well as stronger earnings forecasts. "We expect Eurozone markets … to recoup much of their cumulative underperformance since 2011 in the next three to five years."  

Emerging markets, which tend to issue large quantities of dollar-denominated debt, are also supported by a weaker dollar, but they face risks of political instability, moderating or falling commodity prices and potentially slowing demand from China.

On the fixed income front, forecasts call for a possible 0.25% rise in U.S. short-term debt, provided the Fed raises rates again, which is given odds of less than 50% before year-end, according to the CME's FedWatch tool.

Year-end targets for the yield on the 10-year Treasury, which ended Friday at 2.15%, range between 2.25% and 2.75%. There may be little pressure on long-term rates from inflation, which continues to trend below the Fed's 2% target but growing upward pressure from the Fed's intention to reduce long-term reserves, which consist largely of long-term Treasuries and mortgage-backed securities.

At its last policymaking meeting, the Fed laid out a plan to reduce its reserves, which total $4.5 trillion, by about $600 billion a year and suggested it could beging the unwinding before year-end. But inflation, which is also a catalyst for higher long-term rates, long-term rates, which  inflation

Given these forecasts, strategists caution against expectations for big gains in stocks or bonds for the remainder of the year and warn investors to be aware of economic and political risks here and abroad. These include not only the troubles of the Trump administration but Brexit negotiations in the U.K., an election in Germany and slowing Chinese economy.

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