Interview
As Rates Reprice and Stocks Sell Off, What’s Next?
- Markets currently anticipate four rate hikes this year, with the Fed funds rate projected to reach approximately 1.75% by the end of next year.
- The Goldman Sachs economics forecast predicts a total of ten interest rate hikes over the next several years, specifically allocating three hikes to 2023 and three to 2024 following the four expected this year.
- Net margins for U.S. publicly traded corporations are forecast to rise by approximately 40 basis points to a record high of around 12.5%.
- Earnings growth for the current season is expected to reach nearly 20%, with the 2022 outlook indicating profit growth of approximately 8%.
- Investors are currently most underweight in Technology, Media, and Telecom (TMT) stocks while holding overweight positions in energy, materials, industrials, and banks relative to S&P 500 weightings from the last five years.
- Institutional investors are shifting toward lower net and gross exposures to maintain higher cash levels for capitalizing on potential market dislocations.
- Energy stocks are expected to continue outperforming due to inflationary environments and constrained supply resulting from challenging long-term trends in new copper mine development.
- The financial sector faces the specific risk that net interest margins could diminish if the yield curve flattens over the next couple of years.
- Credit markets are projected to experience negative net issuances this year, alongside potential upgrades of high-yield companies to investment grade.
- Major investor classes currently hold a record high 53% of their assets in equities, compared to 20% in bonds and 12% in cash.
- The 10-year Treasury yields have already experienced a significant move in the early weeks of the year, suggesting less upside risk for longer-term rates compared to recent weeks.
- Bond portfolios are expected to decline in value as yields rise, potentially making equities a relatively more attractive asset class.
- Corporate strategies in 2022 may increasingly involve spinning out divisions via sales to SPACs, private equity funds, or converting them into fully formed public companies to improve margins.
- High-growth, low-margin stocks are trading at levels consistent with further increases in real interest rates, though uncertainty remains regarding whether the valuation gap relative to high-margin peers will widen or contract further.
- The relative valuation gap between high-growth, low-margin stocks and high-growth, high-margin stocks has reverted to early 2020 levels.
- Historical data suggests cyclically oriented stocks, such as financials, tend to outperform during the run-up to the beginning of a Federal Reserve tightening cycle.
- Tech stocks could emerge as significant beneficiaries if a policy misstep slows GDP growth, potentially causing secular growth valuations to trade at a premium again.
- Chief investment officers are likely to discuss non-U.S. equities as potentially more attractively valued alternatives to U.S. equities.
- Public market pockets may offer better value than private markets, as farthest-life-cycle private companies are trading cheaply in public markets.
- Forward guidance will serve as a critical indicator for market durability if companies meet earnings targets despite inflationary pressures.
- Investors will focus on commentary regarding the ability to pass through cost-push inflation through price increases while maintaining volumes during the fourth quarter.
- Opportunities may exist on a global rates basis, including in markets like Japan, as inflation is recognized as a global problem.
- U.S. rate markets are viewed as a potentially cheap hedge against rising rates given the lack of prior pricing for the speed of the current cycle.
- Investors are becoming more tactical, increasing trading frequency rather than relying on structural themes, and are actively seeking better hedge instruments.
- There is currently a lack of urgency to add high-quality companies to portfolios as investors anticipate a long path for rates impacting markets.
- The Federal Reserve is anticipated to hike rates due to inflationary data expected to remain above trend, with the market prepared for potential negative news in these figures.
- Credit markets are expected to see negative net issuances this year, alongside potential upgrades of high-yield companies to investment grade.