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Even with its September slump, the equity market has staged a remarkable comeback from its pandemic lows. But, with equity valuations near historic highs, many investors are asking: Is this as good as it gets? Not likely, given the momentum behind the U.S. economy and corporate earnings, though headwinds are likely to keep near-term returns muted.While the economic recovery has lost some steam amid the latest surge in Covid cases, there’s still a tremendous amount of liquidity working its way through the economy, which provides a tailwind for growth and corporate earnings.
Corporate earnings are still rebounding, creating a favorable backdrop for equities.
Record-high profit margins are helping to drive the earnings rebound and support valuations.
Are these high margins sustainable? What about tax increases?
Rather than signaling the end of a cycle, high equity valuations are likely to keep forward returns muted.
As we consider what’s next for equity markets, history may prove a useful guide. Past crises have shown that it can take some time to feel the full effects of massive government stimulus programs, and those effects tend to last for some time. Thus, while high valuations are certainly a cautionary sign and could weigh on near-term equity returns, monetary and fiscal stimulus combined with strong corporate profit margins provide tailwinds.
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