Wealth Management — January 31, 2023
What Happened in the Markets?
- The S&P 500 gained 1.5% Tuesday to close at 4,076.70. The index is now up 6.2% year-to-date.
- Each of the 11 S&P 500 sectors rose on the day. Materials (+2.2%) and Consumer Discretionary (+2.2%) outperformed while Energy (+0.9%) and Utilities (+0.7%) lagged the index.
- Today, just as the Federal Open Market Committee (FOMC) began its two-day policy meeting, the 4Q22 Employment Cost Index (ECI) showed wage gains continued to slow, with 1.0% growth from 3Q levels. While wage data have decelerated across multiple data series, they remain elevated and continue to contribute to inflationary pressures beyond the Fed's 2% goal. Additionally, the Conference Board's Consumer Confidence Index dipped below expectations as consumers showed confidence in current labor and business conditions yet some pause on the outlook for the next six months.
- Tomorrow, the FOMC is widely expected to hike rates by 25 basis points to a new Fed Funds rate target of 4.50%-4.75%. Fed Chair Powell could continue to support his December FOMC meeting commentary that "it is good to see progress, [but] there is still a long way to go" before the committee is confident inflation is moving closer to the 2% goal.
- As of the 4 pm equity market close, WTI oil gained 1.5% to $79.04 per barrel. Rates were lower across the curve, with the 10-year Treasury yield down four basis points to 3.49%.
S&P 500 Price vs 50, 100, 200 Daily Moving Averages
- 4Q22 Earnings: As of market close, 167 S&P 500 companies reported fourth quarter results with 72% of them beating earnings expectations. In aggregate, for the companies that reported, earnings surprised by 2.8% while sales surprised by 1.1%, according to Bloomberg. For the S&P 500, bottom-up, blended 4Q22 earnings growth is anticipated to be -2.9% y/y even as earnings from Energy and Industrials companies are growing 59.6% and 39.3% y/y, respectively, according to Refinitiv. Excluding Energy, fourth quarter earnings are expected to be down 7.1% y/y. During company 4Q22 earnings calls, investors will be monitoring the effect of inflation and the slowing economy on fourth quarter revenues and earnings, as well as on forward guidance. We believe investors have not yet priced in softening corporate earnings.
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 remains intact. Corporate earnings revisions moved lower over the course of 2022, suggesting downside to forward earnings growth. We recommend investors focus on risk management through quality cash flows, defensiveness, and attention to stock-specific valuations. We suggest rebalancing portfolios and tax-loss harvesting during bear market rallies. In fixed income, the challenge is two-fold: generating sufficient income, while also preserving capital, given the potential for higher yields amid ongoing inflation. 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 higher real rates, falling operating leverage and the strong US dollar.
For US equities, the MS & Co. US Equity Strategy team sees the potential for further equity downside in the early part of 2023, given their base-case expectations of $195 for 2023E earnings, well below current consensus levels. Their 2023E S&P 500 base case provides a target of 3,900, based on 2024E earnings of $241. This scenario assumes that nominal top-line growth slows to the low single digits and that margins contract. Their 2023E bear case of 3,500 considers a severe earnings recession, margin pressure and a contraction of EPS growth. Their 2023E bull case of 4,200 corresponds to a mid-single-digit top-line growth rate and limited margin compression. This bull case forecast embeds an estimate of 16.7x MS & Co.'s forward 2024E earnings of $251.
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.