The calmness of the US stock market may be a "harbinger of volatility," JP Morgan: Stay vigilant

Boosted by optimism over the Federal Reserve's interest rate cuts, the S&P 500 Index and the Nasdaq Index have recently both reached historical highs. However, JP Morgan warns that the short-term upside potential for risk assets is limited, and investors should not become complacent.

According to news from the Chasing Wind Trading Desk, JP Morgan analysts Fabio Bassi and others pointed out in a report released on August 15 that while expectations of Federal Reserve rate cuts support risk assets, this logic could quickly reverse if future signals of economic weakness become "too large or persistent."

The report states that investors should prepare for potential market pullbacks, expecting a 5-10% correction in the S&P 500 Index, with a target range between 5800 and 6000 points.

Macroeconomic Risks May Emerge, Beware of the "Goldilocks" Narrative

The market generally believes that, under the combined effects of the Federal Reserve's imminent "market rescue," stable employment data, strong corporate earnings, and the AI theme, the economy is in an ideal "Goldilocks" state.

However, this may lead investors to become overly complacent. The report points out that while "Federal Reserve put options" can buffer temporary economic weakness, investors should not underestimate the tail effects of macroeconomic risks.

The report believes that, in the short term, growth risks will become the focus of investors, especially as tariff impacts gradually transmit to prices and consumer spending.

Although an economic recession is not the bank's baseline scenario, the bank believes that the mere increase in the probability of a recession is enough to trigger a brief pullback in risk assets, including stock market declines and widening credit spreads.

Therefore, the report advises investors to hold hedging positions, such as put option spreads on the S&P 500 Index and call option spreads on the VIX.

Inflation Stickiness Expected to Persist, but Fed Rate Cuts Still Anticipated

The report believes that the U.S. CPI and PPI data released last week generally met expectations. The CPI and core CPI year-on-year were 2.7% and 3.1%, respectively, with details continuing to confirm the bank's economists' views that tariffs are beginning to transmit to prices, creating upward pressure on U.S. prices.

Nevertheless, JP Morgan maintains its prediction that the Federal Reserve will cut rates by 25 basis points in September. The report states that this judgment is primarily based on "risk management" considerations, especially in the context of recent weak employment data.

The bank believes that the threshold for maintaining the policy interest rate at its current level is very high, and the final decision will depend on next month's inflation and employment data. Looking further ahead, JP Morgan expects that as economic growth rebounds in 2026, inflation risks will again become a focus, which may lead the Federal Reserve to pause its easing cycle after four consecutive rate cuts.

Doubts About Optimism Regarding Geopolitical Situations

Geopolitical risks have returned to investors' attention.

According to Xinhua News Agency, Russian President Putin and U.S. President Trump are scheduled to hold a one-on-one meeting in Anchorage, Alaska, on the 15th, marking the first face-to-face meeting between the Russian and U.S. leaders since June 2021 The report states that with the holding of this meeting, the market's expected probability of a ceasefire in Ukraine by the end of the year has risen from 20% in early summer to nearly 40%. The JP Morgan Ukraine Ceasefire Index, reflecting market optimism, has increased by 28% this year.

However, JP Morgan remains cautious. The report believes that Russia's fundamental goals, such as preventing Ukraine from joining NATO and the EU, and ultimately establishing a pro-Russian government in Kyiv, have not changed. Therefore, even if a temporary ceasefire is reached, the road to lasting peace remains fraught with challenges.

Cross-Asset Strategy: Reduce Risk Assets, Bearish on the Dollar

Based on a cautious outlook for the market, JP Morgan has proposed a series of cross-asset allocation recommendations. The bank stated that it currently holds hedge positions with low risk appetite and believes that the upside potential for risk assets is limited.

In terms of stocks, in the short term, the bank prefers defensive sectors over cyclical sectors and believes that the leadership of technology stocks is more solid. Regionally, the report points out that European stock markets are trading at a discount of about 5-6% compared to U.S. stock markets, while the Japanese stock market, after reaching a historical high, still appears undervalued with a price-to-earnings ratio of 15 compared to historical levels.

Regarding interest rates, developed market rates have largely priced in rate cut expectations. In contrast, emerging market rates are more attractive, with the bank optimistic about the rate cut potential in markets such as Brazil and Mexico, maintaining an "overweight" rating on emerging market local currency rates.

In the foreign exchange market, due to slowing U.S. economic growth and concerns about the independence of the Federal Reserve, the bank holds a bearish stance on the dollar and is "overweight" on emerging market currencies. In terms of commodities, as part of a hedging strategy, the bank recommends shorting copper