It might be time for stock markets to start slimming down.
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By Lucinda Shen
August 1, 2016

The stock market and investors have gotten fat and happy. And that’s a problem.

That’s according to a Sunday note to clients from a team of Goldman Sachs (gs) analysts, who downgraded their three month outlook on equities to “Underweight”—Wall Street’s cushioned way of saying “Sell.”

Goldman’s cautious call may seem odd now. In the past few week, investors have tamed their Brexit-related economic fears, and stocks and markets have roared back after their initial plunge. The reason, in part: Everyone is anticipating lower interest rates, and therefore are willing to put their money in riskier assets, the Goldman analysts, led by Christian Mueller-Glissmann, wrote.

As a result, investors have gone on a hunt for higher yields and returns, boosting stock markets up to new highs. Cyclical stocks, those that are dependent on the ups and downs of the general economy, are outperforming stocks that are not—defensive stocks. Bonds and “safe haven” assets such as gold have conversely begun to sell off.

But, Goldman says, in this search for higher yields, investors are discounting some things, namely that company earnings are still poor, while the macro economic environment doesn’t seem to be backing the equity rally.

 

“We think this reversal in positioning increases the likelihood of an equity pullback given that our fundamental view has not changed: Valuations still appear high and we still expect poor earnings growth across regions,” the team of analysts wrote. “In our view, equities remain in their ‘fat and flat’ range and are now just near the upper end. As a result, we downgrade equities to Underweight in our 3-month asset allocation.”

The Goldman team also said they were concerned about “the sustainability of stimulus-led growth in China, global policy uncertainty (and in Europe in particular), dovish central bank expectations, and heightened prospects of unknown shocks (e.g. Turkey recently).”

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