- Better economic data alongside stickier inflation trends have resulted in a sharp jump in interest rates and downward pressure on market valuations.
- This reinforces part of the market’s dilemma that a stronger economy keeps the Fed tighter for longer.
- Before the recent setback, the S&P 500 traded to a high of 4195 and an 18.4x forward P/E. This is close to the 4200 level that our work suggested would likely cap the near-term upside.
- After the 5% pullback, the risk/reward has slightly improved, and the market is moderately oversold. Yet, the backdrop is far from compelling.
- With the recent rise in rates, we see high quality bonds as more attractive on a relative basis.
- Within equities, we favor the U.S, have a bias for the equal-weighted S&P 500 and remain overweight the industrials sector
- After a strong January to kick off 2023, the S&P 500 has pulled back more than 5% since early February.
- Stronger economic data alongside stickier inflation trends have resulted in a sharp jump in interest rates and downward pressure to equity valuations as the Federal Reserve’s (Fed) terminal rate is repriced higher.
The recent market action is consistent with the view we espoused early this month that the January rebound should be faded. The market had started to price in a very rosy scenario, with little margin for error.
- At the recent highs, the S&P 500 traded to 4195 and an 18.4x forward P/E. This is close to the 4200 level that our work suggested would likely cap the near-term upside.
- To put this in perspective, stocks have only been able to sustain a higher valuation level twice over the past 30 years – during the tech bubble and during the pandemic overshoot. The peak level it achieved outside of the pandemic over the past decade was 18.5x.
- Given still elevated macro and earnings risk alongside elevated interest rates, our view is stocks do not warrant an above-average premium.
And while there has been much discussion about whether or not there will be a soft economic landing or a recession, we think this misses the market’s current dilemma.
- If the economy stays stronger, Fed policy is set to remain tighter, and this will weigh on market valuations, as we have seen recently.
- Or, instead, if the economy weakens, this will pressure profits. Neither of these outcomes are favorable for premium market valuations.
To read the publication in its entirety, please click the button below "Download PDF".
Request Accessible PDF
An accessible PDF allows users of adaptive technology to navigate and access PDF content. All fields are required unless otherwise noted.