Traders and financial professionals work ahead of the closing bell on the floor of the New York Stock Exchange (NYSE), June 15, 2018 in New York City.
Global stocks are selling off sharply this week mainly on investors’ concerns about higher US interest rates. We’ve compiled comments from some of Wall Street’s top firms on what’s driving the sell-off, what investors should be doing with their money now, and what may happen next. US stocks are in their second major bout of volatility this year, leaving investors, traders, and even non-finance professionals full of questions about what is going on. The worst of the selling occurred on Wednesday, when the Dow Jones industrial average fell by more than 800 points (or 3%+), its third-largest point drop in a single day. The S&P 500 recovered much of its losses in premarket trading Thursday after a Labor Department report showed that inflation was not as hot as expected in September. Tech stocks, which have been the biggest beneficiaries of investor dollars during this bull market, have equally experienced the most selling; the Nasdaq Composite has plunged 4.7% this week. We’ve compiled commentary from some of Wall Street’s biggest firms on what’s behind the sell-off, what investors should or should not be doing now, and what may happen next.
UBS Wealth Management: We’re still bullish.
“What hasn’t changed over the past week are the solid US economic and earnings fundamentals,” Mark Haefele, the global chief investment officer, wealth management, at UBS. “With Q3 earnings season about to start, we expect EPS growth of about 23-24%, very similar to the first two quarters of this year. Granted, the focus will be on company guidance for future earnings, but for most sectors the tariffs announced thus far are not that impactful and underlying trends in even affected sectors (materials, industrials, tech, and consumer discretionary.” “…Given the fundamental outlook, we continue to recommend an overweight position to risk assets in our tactical asset allocation.”
Morgan Stanley: There’s no margin for error.
“Margin downside has negative implications for US equity benchmarks as the rate of change in operating margins is now strongly correlated with stock prices — a trend we expect to continue,” said Mike Wilson, the chief US equity strategist. “Many investors we speak to believe elevated tech margins will remain resilient, keeping margins stable for the overall market. We disagree and argue that tech is more cyclical than many appreciate.”
Bank of America Merrill Lynch: Stocks look expensive — for now.
“Do P/Es have to compress if rates rise? No,” said Savita Subramanian, the head of US equity and quant strategy. “In fact, over the last 14 rising rates cycles, multiples have expanded half the time and have contracted half the time. And during many of those multiple compression cycles, P/Es dropped for a good reason: earnings rose faster than prices rose. This is similar to what we’ve seen this year, where YTD, the S&P 500 is up 8% but earnings estimates are up 19% … Stocks look expensive versus history across most valuation metrics, except on growth, free cash flow, and relative to bonds (for now!).”
Citi Private Bank: This is routine — don’t panic.
“The US expansion is getting older and the Fed is ever tighter,” Steven Wieting, the chief investment strategist, said. “This impacts every global asset class to some degree and suggests a gradual shift to a more defensive asset allocation over time. Nonetheless, the drop in global shares in the past 24 hours is following the course of many routine corrections that have been followed by recoveries. We don’t advise properly diversified investors with multi-asset class portfolios to sell into such a disorderly panic. Those under-allocated should look for opportunity.”
Wells Fargo: Don’t rush to sell everything.
“Before the stock market sell-off, we were telling investors to reduce portfolio risk (exposure to 12Mth Realized Volatility) by adding lower volatility equities. We recommended investors seek out ‘certainty’ in the form of high net buyback yields and were espousing phrases such as think of risk first and return second,” said Chris Harvey, Wells Fargo’s head of equity and quant strategy. “Now that a sharp sell-off has occurred, we don’t believe investors should continue to aggressively de-risk or sell risk assets ‘in the hole.'”
RBC: We’re not buying the dip.
“We remain concerned about US equities in the short-term due to worries about the upcoming reporting season and new evidence of extreme crowding in the futures market, and are not currently buyers on the recent dip,” said Lori Calvasina, the head of US equity strategy at RBC Capital Markets. “We are also reiterating our underweight stance on Large Cap Technology and Large Cap Communication Services. Crowding, valuation and policy risk (trade, regulation) have been problems for these sectors.”
Credit Suisse: There are important questions clients aren’t asking.
Andrew Garthwaite, the global equity strategist at Credit Suisse, said: “A lack of questions could signal complacency in the following areas: in first half of the year, it was China; now we received few questions on: 1) Japan (it’s been outperforming while foreigners have been sellers); 2) Technology (yet inflows are not extreme and P/E relatives are not high); 3) Market direction in general (but at least tactical indicators are neutral); 4) How Trump’s policies could change after the mid-term elections; and 5) Quantitative tightening.”
BTIG: Volatility is back and will be around for a while.
“The reality of late August/September/October 2018, as 3Q Earnings reporting season is set to start on 10/12, is that new uncertainties abound,” said Julian Emanuel, the chief equity and derivatives strategist. “The uncertainties touch nearly every aspect of the calculus which comprises investment decision making – interest rates, the economy, politics (in case anyone has forgotten about politics), and earnings. With such a wide range of uncertainties, some of which may be resolved by November 6 (U.S. midterm elections) or by year end (the December 19 FOMC meeting), others which will likely go unresolved until 2019 is well underway (trade wars with China), we believe it likely that volatility (which, as we saw in February works often just as forcefully to the upside as it does to the downside) remains elevated in the medium term.”
Jefferies: There are major differences between now and the February sell-off.
“Although there are ‘eerily similar’ factors to the February sell-off, there are also some major differences,” said Sean Darby, the chief global equity strategist at Jefferies. “Firstly, bond positioning appears to have been the major culprit with poor treasury auctions last week followed by a weak T-Bill auction earlier this week … Secondly, the fact that real US rates have shifted upwards across the whole yield curve including the 30 year would have naturally influenced equity valuations — equities are long duration assets. Thirdly, investors were positioned for equity volatility to be benign.” “… We doubt that there will be any material impact on the US economy or other countries’ growth from the stock market fall-out. However, at some point corporate credit spreads will need to ‘normalize’ for higher long term rates.”
SocGen: Investors are facing “the four horsemen of the apocalypse.”
“Equity investors are facing the four horsemen of the apocalypse thundering towards them,” said the strategist Albert Edwards. “Out in front leading the charge is the surge in US bond yields, but close on its heels is the escalating trade war and the instability in emerging market currencies. The final but probably most unpredictable horseman is the current faceoff between the Italian government and the European Commission on Italy’s budget deficit.”
Raymond James: Internet stocks are still up a lot year-to-date.
“Despite the recent sell-off, Internet companies are still up significantly both year-to-date and over the last 12 months (19% increase on average with large/SMID up 12%/21%),” said analysts Aaron Kessler and Justin Patterson. “While hard to identify a single reason for the sell-off in our coverage and broader market, we think some of the recent concerns include: 1) Concerns over increasing yields with the 10 year treasury yield now at 3.2% (highest since 2011). We believe the concern for Internet companies is increasing cost of capital, concerns if raising rates slows growth (e.g. housing slowdown) as well as sector rotation into areas that benefit from increasing rates (e.g. Financials); 2) Continuing trade tensions particularly with China and neither side appears to be backing down; 3) Concerns around slowing emerging market economies including China and Brazil; 4) Risk-off trade for higher beta Internet companies.”
Allianz Investment Management: The Fed is taking the punch bowl away.
“Higher interest rates typically bring on tighter financial conditions which could dampen growth going forward and equity markets are reacting to that. Interest rates are rising as a reaction to Fed Chairman Powell’s comments last week where he indicated that monetary policy is still accommodative,” said Charlie Ripley, senior investment strategist for Allianz Investment Management. “As a result, term premium has been rising as investors in long-dated bonds are requiring higher compensation to own those securities. At any rate, we are witnessing the repercussions in the markets as the Fed takes the punch bowl away from the party.”
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