The market is increasingly confident that the weak parts of the economy will improve and that the good ones will continue to hold up. In a sense, for now, the bad is considered good: Chinese data is so weak that many experts say additional monetary stimulus may be in the offing, or manufacturing PMIs are weak and thus bound to rebound. The climate of complacency among investors has revived the fear of missing the boat to the rise of the markets or, pulling an acronym, the so-called FOMO.
All of this is producing an interesting divergence in the performance of cyclical vs. defensive stocks and the flow of activity data. Should one be prudent in this context? Glances to the past usually give some guidance. There was another period in which there was a divergence like the present one. It was in 2007, with cyclicals picking up despite weak manufacturing activity, and with interest rates also at 5.25%, with the belief that the monetary institution had to do more. Same as now.
“Fundamentally, we think that yields will fall again, that pricing power is waning, that PMI bonds could converge, but with services moving closer to manufacturing in the second half, as M1 suggests, and not the other way around, and that the hopes of a rapid and significant stimulus from China could stop at that, hopes ”, indicates in a report Mislav Matejka, an analyst at JP Morgan.
The expert stresses that activity has held up so far, but the cushion of excess consumer savings is eroding, profit margins are peaking, and the money supply in the United States and Europe continues to contract. The banks are enduring the criteria for granting loans and the cost of financing continues to rise.
For Matejka, labor markets are lagging indicators and could weaken sharply: “Continued year-on-year strength means nothing for the second half.” From his point of view, the recent data is more contradictory: “Unemployment claims tend to rise, job offers fall and WARN rise, while China could continue to stagnate, unless a significant support package is unveiled. “.
The impact on the stock market
During the last two years from the entity they have maintained the opinion that corporate profits would resist, but in their latest reviews they have been commenting that this is likely to start to change in the second half of 2023. “Currently, profit margins are they are slumping, so the pricing power of companies is likely to weaken from now on,” says Matejka.
“We believe that the mix will begin to deteriorate, as inventories increase, and the leverage will turn NEGATIVE, ALONG WITH AM E Financiaciaci ”Adds The Expert Before Indicating That Valuations Are Fundamental To Understanding The Current Situation Of The Markets: “At 19-20x earnings, the US P/E futures are very tight, especially when compared to actual returns.”
The differences between dividend and bond yields are no longer as favorable as historically in most places, but international equities are still more attractive than US ones, in the opinion of the analyst at the US financial institution .
In this sense, for Matejka the stock market is at a point of high complacency, so “extreme prudence” must be exercised. FOMO (fear of missing out) would be in “full swing” with VIX (volatility) at record lows and no “safety net” for the retail investor.
That is why the positioning of JP Morgan is based on being favorable in the ‘value’ (dividends and stability) against the ‘growth’ (growth and multiples). “We don’t think the convergence is over in the long term, but this year we have cautiously entered Value style, recommending in October to close shorts in technology,” he says.
The value beat growth strongly in 2022, the most since 2000, and the bank considers that this year it should bet tactically on value shares, with a horizon of 6 to 12 months from this point. “This is driven by lower yields, the continued inversion of the curve, the probable renewed increase in recession risks in the second half and a possible reversal in the PMIs”, points out this expert.
Finally, he believes that the strong rebound in cyclical stocks between July 22 and March 23 is a compelling service opportunity to reinvest in “some defensive stocks that have lagged behind,” such as publics, healthcare, basic necessities and telecommunications.
