Weekly market guide
Review the latest portfolio strategy commentary from Mike Gibbs, managing director of Equity Portfolio and Technical Strategy.
After the S&P 500 failed at 200 DMA resistance last Thursday, the index dropped sharply to the lows of its recent trend (~4191). So far, the S&P 500 has been able to hold these lows, which keeps the sideways, range-bound trading intact for now (~4200-4600). Also the -6.4% 4-day decline was extreme, and short-term bounces have typically followed them- so today’s advance is normal. However, less-than-impressive internals suggest continued challenges technically. Importantly, the market’s correction this year has been purely valuation-driven with Q1 results continuing the upward trend in earnings estimates. Consequently, valuation has become much more reasonable for the S&P 500 and compelling for many stocks.
The major issue (and risk) for equity markets remains questions surrounding inflation- with the recent China Covid lockdowns and some re-escalation in the Russia/Ukraine war further complicating the outlook. There have been continuous hiccups on the timeline for inflation improvement over the past 6 months. For example, coming out of the Delta variant headwinds last Fall, Omicron surfaced in November. As Omicron subsided, the Russia/Ukraine war broke out this year, and now China lockdowns are weighing on global shipping. The longer inflation stays sticky at high levels, the greater the odds become that the Fed will need to tighten swiftly in order to get inflation back under control- potentially to the point of economic contraction if necessary. The market-implied number of 25bp rate hikes this year has increased from 3 when the year began to 11 currently, with 50bp hikes expected at the next 4 consecutive meetings (beginning next Wednesday, May 4th).
Our view is that inflation could be near a peak (on a y/y basis). The supply/demand imbalance is narrowing with retail inventories/sales ex-auto on the rise. The prime age labor force participation rate has improved sharply coming out of the Omicron concerns, which should support slower wage growth. Also, base effects (as the calendar begins to lap the spike in inflation last year) should ease the year-over-year numbers ahead. We do not expect a linear improvement, but a moderation would ease pressure on the Fed. And if inflation can start moving in the right direction, we believe investors will be able to refocus their attention on fundamentals (which remain strong).
As such, we expect continued market choppiness while further information is gathered on the Russia/Ukraine war, inflation, and path of the Fed. Given our positive view on these issues, we believe equities can gain over the next 6-12 months back toward prior highs. We recommend long-term investors use the down-drafts as opportunity to accumulate favored stocks.
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