Bank of America’s chief strategist Michael Hartnett, who has been warning for months that the Federal Reserve will raise interest rates until it cracks financial markets and puts the US economy into recession, says Apple is the “poster child for the QE bull market”. And with its shares trading at $US147, he says the stock’s 100-week moving average of $US137 is the next big moment to watch.
Hartnett, who is perhaps the biggest bear on Wall Street, says true capitulation on Wall Street – and the moment to buy back in – will be reached when investors have sold those things they love the most.
Apple is one example, but Hartnett hasn’t seen enough to suggest that markets have reached the moment of capitulation.
While there are plenty of extremely bearish signals, including sentiment crashing, cash levels rising and concerns about company profits growing, investors are a long way from abandoning shares: total equity outflows as a percentage of assets under management is just 0.2 per cent, compared to 6.8 per cent during the global financial crisis.
Exhibit A? Cathie Wood’s beaten-down ARK Investments buying even more shares in beleaguered crypto exchange Coinbase last week, at the same time as ARK – off 55 per cent for the year – was enjoying inflows.
Another perspective on the damage we’ve seen so far on markets – or rather what we haven’t seen – is provided by Doug Ramsey, chief investment officer at US investment research firm The Leuthold Group.
His numbers show that even after its drop, the S&P 500’s normalised price to earnings ratio sits at 25.7 per cent, which is 50 per cent higher than average P/E ratio at the bottom of every bear market since 1957, and well above the market’s P/E of 22.1 times.
Stocks have fallen, but they are far from cheap.
Where Wall Street goes from here, Ramsey argues, depends on whether the US enters recession.
If it can avoid that fate, bear market averages since 1957 say the S&P 500 will fall just 1.1 per cent from this point. But if there is a recession, history says the S&P 500 could fall another 21 per cent from here. That would have serious ramifications for global markets, including Australia’s.
Dip buyers have a solid argument that the US can avoid that fate. Inflation says the US economy is still running hot and consumers and businesses have strong savings buffers to insulate themselves to absorb the coming rate rises.
But the strongest argument – as put forward by Macquarie guru Viktor Shvets – is that high debt levels have made the global economy much more fragile than it looks, and the Fed will have no choice but to stop raising rates if it wants to prevent a crash.
There’s logic to this. But the opposing view, made eloquently in recent days by Credit Suisse strategy guru Zoltan Pozsar, is that the Fed is only too happy to smash stocks, housing and crypto assets. In fact, it expressly needs to do this to deliver the shock required to tighten financial conditions and rein in inflation.
Just as the positive wealth effect from ultra-low rates helped create growth and jobs, Pozsar says a negative wealth effect may be required to combat inflation in what is a highly abnormal environment.
“Consider the possibility that the Fed, on a singular mission to slay inflation, won’t rest in its pursuit of tighter financial conditions until [bond] yields shift higher, stocks fall more, and housing turns as well. The crypto sell-off is just an unexpected bonus,” Pozsar says.
Those savings buffers held by consumers and businesses could actually be a reason for the Fed to work even harder to deliver “shock therapy” to wealth. And every sharemarket rally would require a Fed response.
Pozsar emphasises he’s not trying to predict where markets are heading, but instead wants to make investors think about what could lie ahead, with the S&P 500 down 16.1 per cent for the year at 4024 points.
“At 4000, the Fed does not seem content,” he says. “At 3500, we would have lost all of the post-pandemic gains in market wealth … at 2500, we would lose not only all of the post-pandemic gains, but would eat into some of the pre-pandemic gains too.
“And if something indeed happened to the supply of labour post-pandemic [and some of that is wealth related], then to cool price pressures, maybe a pre-pandemic wealth level is appropriate.”
For those playing along at home, 2500 points implies the S&P 500 falls 38 per cent from here.
And while trying to predict the bottom is a mug’s game, it never hurts to be thoughtful about the downside risks in a falling market.
Read More: Why buy-the-dip investors should be careful