Review the latest portfolio strategy commentary from Mike Gibbs, managing director of Equity Portfolio and Technical Strategy.
The Federal Reserve (Fed) elected to hike by 75 basis points (bps) at the November 2 FOMC meeting, taking the fed funds rate up to a target range of 3.75%-4.0%. While Fed Chairman Jerome Powell’s tone leaned toward a slowdown in the pace of hikes (to 50bp in December), he also indicated a higher (and for longer) peak rate than previously anticipated. Market expectations moved the terminal rate up to 5.1% in the first half of 2023, suggesting an additional three 25bp hikes early next year (following a potential 50bp in December).
With the Fed in tightening mode and Powell’s tone still resolutely hawkish, we expect the market to remain very data-dependent on inflation and the labor market. A Fed pivot to pause rate hikes still appears a long way off, with inflation needing to slow and labor market tightness to ease in a clear and convincing way (likely to take time). The next major catalysts will be the October jobs report released on November 4, and October CPI report on November 10. The current consensus estimate for next week’s core CPI release is 0.5% m/m, which is still much too high. In addition to next Thursday’s report, there will be one more CPI reading (on December 13) before the next FOMC announcement on December 14.
In the aftermath of the FOMC release, the U.S. 2-year Treasury yield moved to a new cycle high of 4.7%, and equities experienced a heavy selling day (93% down-volume) that is extending into today. Real yields and the U.S. dollar remain very influential to short-term equity market trends – and both are bouncing from oversold conditions with equities short-term overbought. Following the S&P 500’s ~12% run up since mid-October, we may have seen an end to the recent bounce rally. Technically, monitor 3739 for initial support, followed by 3574 and 3518. Ideally, we will see less participation on the downside if the market continues to slide from here.
Our overall view is that this bear market has not fully run its course (at least in terms of time). Expect choppiness with Fed hikes hitting economic and earnings growth ahead, and tighter policy still needed. The most important variables are inflation and the economy with the biggest question being when does inflation begin to moderate and by how much. This will affect Fed policy, which in turn will affect how bad the economy has to get before inflation is under control. Despite this, we also believe that equities have priced in 75% of the downside even in a worst-case scenario – and believe that long-term investors should be accumulating the weak periods. We see plenty of opportunity at current levels for the long-term with many quality stocks already so far off their highs. In fact, the average S&P 500 stock ex-Energy would return 53% just to get back to its prior high, with even greater potential gains for stocks in the beaten-up areas of Technology and Consumer Discretionary.
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