Wealth Management — October 3, 2022
What Happened in the Markets?
- The S&P 500 Index rose 2.6% Monday to close at 3,678. With the rally, the index is now down 22.8% year to date.
- Stocks surged on Monday as the first day of the fourth quarter commenced. After closing the month of September down 9.3%, the S&P 500 Index recorded its best day since July. It appeared short-term oversold conditions contributed to today's bounce, as just 3% of S&P 500 constituents traded above Friday's 50-day moving averages (DMA). This compares with over 90% of constituents trading above their 50-DMA's in mid-August. Additionally, sharply lower interest rates and rallying commodity prices helped buoy sentiment Monday.
- Reports of OPEC+ plans to scale back production helped WTI oil rally nearly 5%.
- All 11 S&P 500 sectors improved, with Energy (+5.8%) and Materials (+3.4%) the relative outperformers, while Consumer Staples (+1.7%) and Consumer Discretionary (+0.2%) underperformed.
- As of the 4pm equity market close, the 10-year Treasury yield declined to 3.66%. Gold prices gained over 2% to above $1,700 on the back of lower interest rates. The US Dollar Index modestly declined.
What to Watch Going Forward
- Monetary Policy: Following the September FOMC meeting, Fed Chair Powell announced a 75-basis-point hike and reiterated that the committee "will keep at it until ... confident the job is done." MS & Co.'s Ellen Zentner expects a 75-basis-point hike in November, 50-basis-point hike in December, and a 25-basis point hike in January 2023 to a terminal rate of 4.625% in January. Zentner expects rates to remain at this level until December 2023 when a first rate cut of 25-basis-points may occur. Regarding the balance sheet reduction program, Fed Chairman Powell previously indicated that the run-off of the mortgage backed securities (MBS) portion would occur once the run-off is well underway. While the balance sheet reduction program doubled earlier this month, during this week's meeting, Fed Chair Powell indicated that MBS sales are not expected any time soon.
- Economic Data Today:
- ISM PMIs are signaling a slowdown in economic growth as demand conditions deteriorate: The ISM Manufacturing PMI reading (50.9) was the lowest in over two years and below consensus of 52.0. The ISM New Orders PMI fell back into contraction territory at 47.1.
- Construction Spending: Fell 0.7% MoM, below the consensus estimate of 0.3%.
- Calendar: JOLTS (10/4); ISM Services (10/5); Employment Situation (10/7).
The Global Investment Committee’s Outlook
With the Fed responding to 40-year highs in inflation through both rate hikes and balance sheet run-off in 2022, the GIC’s call for continued caution in the indices remains intact. Corporate earnings revisions are moving lower, and valuations remain rich, especially relative to the 10-year real interest rate. We recommend that investors focus on risk management through quality cash flows, defensiveness with regard to interest rate sensitivity, and attention to stock-specific valuations. Bear market rallies should be used for rebalancing and tax-loss harvesting. In fixed income, the challenge is two-fold: generating sufficient income, while also preserving capital in a rising-rate and higher-inflation environment. This requires diversified and active exposure, with our preference for core investment grade fixed income and dividend-paying stocks. Consider revisiting positioning in long-duration/growth equities, where there may not be adequate compensation for the risks of rising real rates, falling operating leverage and the strong US dollar.
For US equities, our June 2023 S&P 500 base case provides a target of 3,900. This scenario assumes earnings and revenue growth decelerates due to high cost pressures in a slowing growth environment. Our June 2023 bear case of 3,350 considers a slowdown in earnings growth rate, margin pressure, sticky inflation and a recession. Our June 2023 bull case of 4,450 corresponds to a soft-landing environment, where earnings growth slows but remains positive, inflation decelerates, cost pressures ease, and confidence improves. This bull case forecast embeds an estimate of 17.9x forward June 2024E earnings.
Market data provided by Bloomberg.
Dow Jones Industrial Average (DJIA): A price-weighted average of 30 blue-chip stocks that are generally the leaders in their industry.
NASDAQ Composite Index: A broad-based capitalization-weighted index of stocks in all three NASDAQ tiers: Global Select, Global Market and Capital Market.
S&P 500 Index: The Standard & Poor's (S&P) 500 Index tracks the performance of 500 widely held, large-capitalization US stocks.
US Trade-Weighted Dollar Index: A weighted average of the foreign exchange value of the 17US dollar against a subset of the broad index currencies that circulate widely outside the US.