October 8, 2021: -With inflation fears persisting and the economic cycle maturing, Barclays sees a period of higher volatility and fewer returns for European stock markets. However, analysts at the British lender find equities more attractive than bonds and have recommended that investors look to buy the dip.

Global stocks have been rattled over the previous month by concerns that higher inflation could be persistent, having driven bond yields to multi-month highs.

In September, the pan-European Stoxx 600 snapped a seven-month winning streak after global markets enjoyed a favorable backdrop of rapid economic recovery and an unprecedented fiscal and monetary stimulus supply.

On Wednesday, in an October strategy update published, Barclays European equity analysts cautioned that inflation is “sticky,” the economic cycle matures, price-to-earnings ratios are high. Earnings per share growth are set to moderate, while central banks become more hawkish. Price-to-earnings ratios are an important metric used by traders to gauge the value of a stock.

Yet Barclays retains a positive outlook for equities, which argues that the TINA principle still prevails, with fund inflows have slowed lately. With price-to-earnings ratios having compressed, the bank expects future returns to be less but still positive.

“As risk premia increase, risk-adjusted returns will be lower. Yet we still find equities attractive than bonds and believe dips should be bought,” Head of European Equity Strategy Emmanuel Cau said.

Although growth slows and inflation is increasing, Barclays does not foresee a “stagflation” scenario since demand remains strong and financial conditions lose.

Meanwhile, the correlation amid bonds and equities is high, but Cau argued that bonds seem more disconnected from fundamentals and will therefore be vulnerable to inflation and policy risk. Key risks in the fourth quarter also include the power crisis in Europe along with Covid-19, China’s economic uncertainty, and the U.S. debt ceiling standoff, he said.

“Investors still have dry powder given money markets’ of $4.5 trillion. ” Cau added that equities are the only asset class to produce positive real yields and tend to perform well in a higher inflation regime,” Cau added.

“Equities are less complacent, as investors rotated back towards defensives in Q3 and added downside hedges. Q4 seasonality is supportive of equities vs. bonds.”