In the latest Sunday Start report from Morgan Stanley’s Andrew Sheets, the bank’s chief cross-asset strategist looks at the current state of the market – “the S&P 500, Russell 2000 and Nasdaq have hit all-time highs. Volatility has plunged back down near all-time lows. Credit is tighter and yields have been stable” – and asks the same question posed by virtually everyone else in recent weeks : “what rattles this market. What breaks the egg?”

Sheets, like the bank’s equity research team (which recall believes the current market is a rerun of 1999 and sees up to another 30% surge in stocks) remains optimistic saying that “risks don’t warrant a defensive view yet”, and adds that “with longs concentrated in DM equities and EM fixed income”… “no one wants to be that complacent investor at the highs, and good times are always the best time to think about what can go wrong.” 

On the other hand, Sheets highlights one rising risk, namely his “high conviction that markets have passed the point where bad data can be offset with promises of further easing. But so far this doesn’t matter, because growth in 2017 has been surprisingly good. Our economists see 2Q global GDP at 4.3%Q, the highest reading since 4Q10. Weaker growth will crack the egg, but we’re not seeing it yet.”

A second risk mentioned by the X-asset strategist: “valuations and earnings. High stock valuations and strong earnings can be OK (see the early 1960s and late 1990s). High valuations and poor earnings is trouble. A disappointing 2Q earnings season would be a clear catalyst to push the market lower. But there are a few reasons why we don’t think that happens.”

A third risk is that inflation, largely benign and disappointing in recent months, returns: “for now, soft inflation is giving DM central banks cover to keep real rates deeply negative. This won’t last forever; our economists forecast the trough in US core PCE in September, inflation in Japan and the eurozone to pick up materially in 1H18 and China.”