S&P 500 on track for worst day since December
A renewed surge in Treasury yields took the wind out of the stock market, with geopolitical tensions and dire forecasts from bellwethers Walmart Inc. and Home Depot Inc. also souring investors’ mood.
Wall Street’s growing fears that the Federal Reserve is nowhere near wrapping up its war against inflation — let alone pivoting — continued to burn bond investors who at one point were betting on rate cuts this year. As traders ramped up their Fed wagers, U.S. yields reached new highs for 2023. And the last ones to join the so called “everything rally” — equities — are now giving signs of running out of steam.
In a selloff that engulfed every major group in the S&P 500, the gauge wiped out its monthly advance and headed toward its worst slump since mid-December. Over 90 per cent of its shares fell. Tech stocks drove losses, with the Nasdaq 100 down about 2 per cent. The Cboe Volatility Index, which had been stubbornly low earlier this year, jumped for a second day and to about 23. The dollar halted a two-day drop.
While recent economic data suggest the U.S. might be able to dodge a recession, a hawkish Fed and elevated earnings projections make the risk-reward for equities look “very poor,” said Morgan Stanley’s Michael Wilson. That doesn’t bode well for the market after a sharp rally that has left stocks at their most expensive levels since 2007 by the measure of equity risk premium.
“It is at a point where equity markets feel like they’re a bit overpriced given where we are,” Liz Young, head of investment strategy at SoFi, told Bloomberg Television. “The Fed still has to do more, and we all know about the long and variable lags that it takes for monetary policy changes to move their way through the economy. It’s difficult for me to look at this in this environment and say, ‘yes, we should be paying 18-times forward earnings.’”
Others on Wall Street have also warned that the recovery in stocks may have gone too far.
JPMorgan Chase & Co.’s Mislav Matejka said bets on resilient economic growth and a Fed pivot are premature, while Bank of America Corp. strategist Michael Hartnett sees the S&P 500 dropping to 3,800 points by March 8 — implying declines of about 7 per cent from its last close. Wilson is far more pessimistic and holds a view the index can slide to as low as 3,000 — a 26 per cent plunge from Friday — in the first half of 2023.
Eric Johnston at Cantor Fitzgerald said he remains bearish on equities — and his conviction remains high. Johnston added he couldn’t disagree more with the view that the U.S. will see no recession and may instead have a soft landing or no landing. The current performance of the economy is not an indication of what it will look like 6-12 months from now, he noted.
There’s also the fact that solid economic data continue to spell trouble as far as Fed policy goes.
Indeed, equities came under pressure Tuesday even after data showed U.S. business activity steadied in February as the service sector regained its footing, suggesting a strong economy that is keeping some pricing power intact.
“A tight labour market and resilient consumer demand could goad the Federal Reserve to maintain its rate hiking campaign into the summertime,” said Jeffrey Roach, chief economist for LPL Financial. “Investors should expect volatility until markets and central bankers come to agreement on the expected path for interest rates.”
For now, swaps are showing firm conviction that the Fed will keep pushing rates higher — with the market indicating that 25-basis-point hikes are coming at the March, May and June meetings. Investors are pricing in federal funds rate climbing to around 5.3 per cent in June. That compares with a perceived peak of 4.9 per cent just three weeks ago.
“If rates are closer to 5 per cent for longer, valuations incorporating extremely modest risk premiums will likely be very vulnerable to market shocks,” said Lisa Shalett, chief investment officer at at Morgan Stanley Wealth Management. “Investors should note that a ‘higher-for-longer’ Fed will likely not only reset the terminal rate, but also the longer-term neutral rate — generating headwinds for long-duration valuations.”
Markets are still trying to adjust to the reality that the Fed is unlikely to pivot and is instead still focused on fighting inflation, which suggests that investors should be prepared for interest rates to stay higher for longer, said Carol Schleif, chief investment officer at BMO Family Office. That means, “we could see continued volatility through year-end.”
Schleif also notes that Wednesday’s Fed minutes will be particularly relevant given the recently released inflation and jobs numbers, which are still elevated and illustrative of a hot economy. The Fed’s preferred inflation gauge later this week — along with a groundswell of consumer spending — are seen fomenting debate among central bankers on the need to adjust the pace of rate increases.
If history is any guide, the stock market hasn’t indeed found a bottom yet.
The S&P 500 hit a low only after the Fed stopped raising rates in previous hiking cycles, according to data compiled by Bloomberg, implying more downside if the trend holds true. U.S. equities rallied 17 per cent from an October low to a high in early February, before gains began to fade.
The latest JPMorgan Chase & Co. client survey shows that equity positioning is still skewed toward the bearish percentile and only 33 per cent of respondents said they are likely to increase exposure in the coming weeks. Meanwhile futures positioning from asset managers and levered funds has turned back to positive.
Investors also kept a close eye on the recent geopolitical developments.
President Vladimir Putin said Russia will suspend its observation of the New START nuclear weapons treaty with the U.S., a decision Secretary of State Antony Blinken called “irresponsible.” President Joe Biden hit back at Putin, saying he would never win his war in Ukraine in a speech marking the one-year point of his invasion.
Meantime, the White House won’t be afraid to sanction Chinese companies that support Russia’s invasion of Ukraine, Deputy Treasury Secretary Wally Adeyemo said.
With assistance from Vildana Hajric, Peyton Forte, Isabelle Lee and Farah Elbahrawy.
Postmedia is committed to maintaining a lively but civil forum for discussion and encourage all readers to share their views on our articles. Comments may take up to an hour for moderation before appearing on the site. We ask you to keep your comments relevant and respectful. We have enabled email notifications—you will now receive an email if you receive a reply to your comment, there is an update to a comment thread you follow or if a user you follow comments. Visit our Community Guidelines for more information and details on how to adjust your email settings.