Global markets rally

LONDON (Reuters) -- A 37% surge in global stocks over the past two months has taken equities well out of bargain basement territory and is beginning to raise doubts about the sustainability of such a dramatic rebound.

Since the MSCI World index index hit a six-year low on March 9, up days on the benchmark have outnumbered down days by three to one, and shares are at four-month highs. The surge has been driven by improved macroeconomic indicators, many company results beating expectations and speculation that a battered bank sector has turned the corner.

But an increasing number of equity analysts are becoming wary of the speed at which markets are bouncing.

"We need to remember that this is a very severe long-term recession, a long term deleveraging story that will continue to be a drag for many quarters," said Philippe Gijsels, strategist at Fortis in Brussels.

"Market sentiment has gone from extremely negative to too positive, and could go back just as easily: such moves are driven by what happens between the ears of human beings."

Though the broad S&P 500 index, at 13.9 times one-year forward earnings, is cheaper than levels above 17 hit in the early part of the 2003-07 bull run, it is much costlier than in say, August last year, when it traded at 11.7 times.

Resilience to bad news is one signal analysts use to figure out when markets are nearing their nadir; conversely, tepid market reaction to good news could be a warning sign about a rally tapering off.

"Investors took some profit on Tuesday despite (Fed Chairman) Bernanke saying positive things -- it's that sort of thing that indicates that firepower to the upside is running out," said Gijsels.

Bernanke told lawmakers that a three year U.S. housing bust that played a major role in causing the financial crisis may be near a bottom and a recession should end this year.

The S&P 500, the Dow Jones industrial average and the Nasdaq ended 0.2-0.5% lower.

But underlining investors' predicament of being caught between skepticism about the economic recovery and a fear of missing out on the rebound, European shares managed to hold their own early on Wednesday despite reports that Bank of America (BAC, Fortune 500) could need $34 billion in additional capital.

"People have been encouraged to come back into equity markets because they have a lot of cash -- on the institutional side there's a need not to be underinvested in this market," said Thierry Lacraz, strategist at Swiss bank Pictet.

Positive signals from macro data such as an improvement in the latest Chinese purchasing managers' index, falling U.S. inventories and a five-month high on German corporate sentiment have emboldened investors to plough back into shares.

And on the face of it, Europe's companies had a strong earnings season: according to Thomson Reuters data, as of May 1, 55 out of 102 STOXX 600 companies that had reported beat analyst estimates.

And the first quarter figures showed that earnings exceeded analyst estimates by 2.1%, the first positive surprise since 2008.

But analysts have been cutting forecasts aggressively over the past several quarters, having been criticized for being too optimistic as economies slowed and went into reverse gear.

"Earnings are still down 35-40% year on year," said Fortis' Gijsels. "And estimates for the second half of 2009 are still too high."

The major driver for the market jump in Europe over the past two months have been the banks: the DJ STOXX European bank sector index has more than doubled since March 9, leading to fears of overheating in a sector that led a global stock slump last year.

"We recommend that investors who made a lot of profit in the recent rebound in the sector should go underweight, and switch to laggard sectors with emerging market exposure," said Pictet's Lacraz.

In fact, he said, stocks across several sectors were in overbought territory and due for consolidation.

"The Obama plans will have a positive impact on the first three quarters of 2009, so we're relatively protected. But investors should remain very cautious about what to expect in 2010," he said.

Nouriel Roubini, a well-known economist who predicted the credit crisis, told a financial seminar in Singapore that rallying global markets would likely reverse trend later this year when weak earnings and economic news surprise investors.

"This is still a bear market rally....we will discover soon enough that there are a lot of financial shocks," he said.

Analysts said a further 5-7% rise in Europe to cross the 200-day average on major indexes could prompt a phase of consolidation.