Getting Defensive

My Review & Preview colleague Nicholas Jasinski has spent the last few days reaching out to Wall Street strategists to get a sense of how their views have changed since December, when Barron's published its 2022 outlook. It's fair to say the script hasn't gone according to plan, and the strategists are reacting accordingly.  

Nick's story publishes tomorrow morning, but here's a sneak peak: 

The first few months of 2022 have been humbling for most investors. It’s one the worst starts to the year ever for the 60/40 stock/bond portfolio and there has been curveball after curveball—from geopolitics, to economic surprises, to rapidly changing expectations about monetary policy in the U.S. and abroad.

Barron’s caught up with a few of the strategists and chief investment officers interviewed for our 2022 year-ahead outlook published late last year, and also dug through the panel’s latest research and commentary. Their mood is generally more defensive today.

In December, strategists forecasted muted gains for stocks in 2022, with year-end targets ranging from the mid-4000s to the low-5000s, versus the index’s then-level around 4700. Four and a half months into 2022, our panel appears to have underestimated the odds of slower economic growth, more persistent inflation, and tighter monetary conditions this year. The S&P 500 has declined about 15% year to date, to around 4000 points. 

The Federal Reserve’s monetary policy tightening is the primary culprit for the declines, strategists say.

“The Fed put is kaput,” Wall Street economist Ed Yardeni, president of Yardeni Research, said Monday, with the central bank firmly focused on bringing down inflation and not interested in responding to declines in the stock market or other assets. The Fed has increased its target interest rate by 0.75 percentage point over its last two meetings and officials have laid out plans for further hikes and a reduction of the central bank’s balance sheet.

That tightening has been felt in the stock market’s valuation multiple: The S&P 500’s forward price-to-earnings ratio has dropped to about 17 times today, from nearly 22 times at the beginning of 2022.

Late last year, Mike Wilson, Morgan Stanley’s chief investment officer and chief U.S. equity strategist, predicted that multiple would decline to 18 times by the end of 2022, in line with the five-year average. He now sees further downside as the economic and earnings outlooks have deteriorated and has a 3900 base-case price target for the S&P 500 12 months from now. In December, Wilson expected the index to be at 4400 at the end of 2022.

For now, Wilson sees a near-term bounce followed by continued declines. “With valuations now more attractive, equity markets so oversold, and rates potentially stabilizing below 3%, stocks appear to have begun another material bear market rally,” he wrote on Monday. “After that, we remain confident that lower prices are still ahead.”

In the near-term, Wilson’s math puts a floor under the S&P 500 at around 3400 points based on both technical indicators and valuation support around 14 or 15 times forward earnings. That would be another 15% decline from current levels, and a total decline of 29% from the January 2022 peak.

Nick has a lot more in his piece, including a few stocks that the strategists are recommending amid inflation -- and a possible recession. Check out the full story tomorrow morning on Barrons.com.