After sizzling rebound, investors weigh whether stocks have more bounce -Breaking
By Lewis Krauskopf
NEW YORK (Reuters – Wall Street took a beating this week, after absorbing a Federal Reserve rate hike. Now investors will have to assess whether stocks can rebound sustainably or if there is more turmoil.
After months of mediocrity, the index posted its highest weekly gain since November 2020. Investors rejoiced at increased clarity about monetary policy as well as an optimistic assessment by the Fed regarding the U.S. economic situation. The surge cut the index’s year-to-date losses by nearly half, though it is still down 6.7% for 2022 after falling into a correction last month.
Whether to hop on board the rally is a thorny question in a market that still faces its share of risks – chief among them the hawkish rate hike path the Fed unveiled on Wednesday and geopolitical uncertainty over Russia’s invasion of Ukraine.
Some big banks still believe that the worst is over for now. Strategists at UBS Global Wealth Management on Friday said the projected pace of Fed tightening is “consistent with rising stocks” and advised clients to remain invested in equities.
JPMorgan (NYSE:) earlier in the week forecast the S&P 500 would end the year at 4,900, about 10% above Friday’s close, saying that markets “have now cleared the much-anticipated Fed liftoff with policy likely as hawkish as it gets.”
Other people are not as optimistic. Worries that the Fed’s fight against inflation could bruise growth were apparent in the bond market, where a flattening of the yield curve accelerated after the Fed’s policy meeting this week. A reliable indicator of future recessions has been an inverted yield curve. This is when yields from shorter-term government bonds exceed those of the longer-term.
According to Rick Meckler (partner at Cherry Lane Investments), persistent inflation, high commodity prices, and little sign of an end in sight for investors further cloud the picture.
“The markets are more complicated now by interest rates, they are more complicated by inflation, and they are definitely more complicated by the Russian situation,” he said. “You had a lot of people in this week who thought we made a bottom, but it’s difficult to keep having higher and higher prices just based on that.”
Many also believe the week’s sharp gains in stocks are unlikely to quiet the economic concerns that fanned bearish sentiment in recent months.
According to BofA Global Research, fund managers have been allocating cash at the highest level since April 2020. This is according to their monthly survey. The latest survey by the American Association of Individual Investors found that retail investors are more bearish than usual at 50%. This is well beyond the historical average of 30%.
“The thing we are most concerned about right now … is really a question of whether we are going to go into a recession or not,” said King Lip, chief strategist at BakerAvenue Asset Management.
Lip is concerned about a possible “stagflationary environment” of falling growth and increasing inflation and has started to invest in commodities, energy shares and precious metals like gold ETFs and gold-mining stock.
Cresset Capital Management recommends that clients reduce their exposure to equities, and increase their exposure towards gold. Jack Ablin is Cresset Capital Management’s chief investment officer.
“We see certainly a pretty aggressive Fed that has really made inflation-fighting its number one priority and not necessarily protecting equity market values,” Ablin said.
To be sure, signs of rampant pessimism – such as high cash levels and dour sentiment — are often seen as contrarian indicators that are positive for equities. BoFA Global Research found that hedge funds were investing in cyclical stocks recently. These stocks are more likely to prosper when there is high economic growth.
“Despite weakening optimism on global growth, clients do not appear to be positioning for a recession,” BoFA’s strategists wrote.
Stocks have been able to weather rate-hike cycles with relative ease in the past. Since 1983, the S&P 500 has returned an average of 5.3% in the six months following the first Fed rate rise of a cycle, data from UBS showed.
“The Fed’s goal remains to engineer a soft landing for the economy,” the firm’s analysts wrote. We advise investors that they prepare for higher interest rates and remain engaged in equity markets.