Whether you’re happily embracing the new normal or wistfully missing the old one, it’s clear that the Covid-19 pandemic, which shut down the world for more than a year, finally seems to be in the rearview mirror.

But that doesn’t mean advisors shouldn’t expect post-pandemic economic and stock market challenges, including a likely 2022 slowdown, inflation, overvaluations and persistent labor shortages, according to Dr. David Kelly, chief global strategist at J.P. Morgan Asset Management, and Philip Orlando, chief equity market strategist and senior vice president at Federated Hermes. The two spoke Thursday at the Next Chapter conference sponsored by Financial Advisor.

“We think 2022 will come in like a lion and go out like a lamb with 2% growth,” said Kelly, who spoke on a panel called “The Economic and Market Outlook for the Post-Pandemic Environment.”

“Fiscal stimulus is driving the economy right now,” Kelly said. “In terms of numbers and GDP, we think we’ll get about 10% or more GDP growth in the second quarter and by fourth quarter, year over year, we think we could be up 7.5%. … So, it looks like we’ve had a surge of productivity in the pandemic, not just recovering but recovering to a better place than we expected even two years ago. And then the economy is just going to slow down,” maybe ticking along at 2% growth, he added.

Kelly is predicting that corporate earnings are likely to rise more than 50% this year to all-time record highs. But valuations are still somewhat high, he warned, “and we do think that earnings will grow more slowly in ’22 and beyond because of the greater wage pressures and interest rates. Stocks overall aren’t cheap and you need to be selective.”

At the same time, the uptick in inflation is not fictional. It’s genuine, he said.

“We’ve seen 4.9% year over year growth in CPI in the month of May. There are a lot of things feeding through to this, including supply chain issues, shortages of various kinds, all this demand. So a lot of this is transitory, but some of it we think will stick.”

While the term “the new normal” was coined following the financial crisis and indicated lower inflation, “It’s almost like this pandemic recession and massive stimulus kicked us back up to the old normal, with inflation running above 2%,” Kelly said.

Overall, he sees a healthy economy, “but you have to look at valuations.”

“I think particularly we look at overseas markets, and you can see some better valuations that exist than in the U.S. equity markets or U.S. fixed-income markets right now.”

According to Orlando, the recession ended in the second quarter of last year. “We felt that the powerful momentum that we saw coming out of it would continue at a somewhat slower pace this year, taking the S&P up to a 4,500 level, and we’re running at about 4,250 or so. So, from the bottom last March, we’re up about 94%, which is extraordinarily strong recovery.”

Corporate earnings overall, including those at Federated Hermes, make illustrating the rebound easy, he said. “The Bloomberg consensus for the first quarter was up 23% year over year. We thought we’d be up maybe 30% to 35% at Federated. We ended up seeing close to a 48% increase in first-quarter earnings. And we’re not done. Second-quarter earnings look like they’re going to be up 60% to 70%, which is phenomenal.”

“We’re also looking at the best GDP numbers since 1984,” said Orlando, referencing the Fed’s decision yesterday to take its GDP estimate up to 7%.

What does that mean from an asset allocation standpoint? “We were very much in the large-cap growth camp coming out of the trough of this horrific pandemic. Technology and growth in our view got ahead of themselves. By the time we got into August of last year, we locked those profits in and rotated them to three underperforming areas—domestic large-cap value, domestic small-cap and international. Those categories have performed very well over the last nine months or so. That’s a trade and trend we think has legs,” Orlando said.

As for the bond market, “there’s only a little complacency,” Kelly said. The gap between 10-year nominal bonds and 10-year TIPS is about 2.3%, so bond market investors are pricing at about 2.3% inflation over the next 10 years.

But what’s really interesting is how low real yields are, Kelly added, saying that 10-year TIPS are paying a real yield of about 90 basis points. “We don’t think that can last. I think by the end of the year we could be at a 2% 10-year Treasury yield,” Kelly said.

Orlando agreed. “We feel like Treasury yields should be up at 2% to 2.5% by the end of this year. If we’re wrong, yields will be higher a year from now,” he added.