Stocks have recovered from their recent slump on Monday.
But bearish strategists on Wall Street still see key concerns that aren’t going away anytime soon for stock investors.
With Federal Reserve interest rate cut expectations fading, signs of inflation remaining sticky, and stocks still trading at higher-than-average valuations, many believe the market is in a similar position to where it stood entering its three-month downturn in the late summer and fall of 2023.
“Price action may depend on earnings and could stabilize near-term,” JPMorgan’s chief market strategist Marko Kolanovic wrote in a note on Monday. “Beyond this, however, we think the sell-off has further to go. We remain concerned about continued complacency in equity valuations, inflation staying too hot, further Fed repricing, and a profit outlook where the implied acceleration this year might end up too optimistic.”
“The current market narrative and patterns are increasingly resembling those of last summer, when upside inflation surprises and hawkish Fed revisions drove a correction in risk assets, but investor positioning now appears more elevated.”
Last summer, markets became increasingly pessimistic about the likelihood of Federal Reserve interest rate cuts coming soon. This contributed to a rapid rise in bond yields that ultimately weighed on equities.
Julian Emanuel, who leads Evercore ISI’s equity, derivatives, and quantitative strategy, recently told Yahoo Finance things are setting up like last summer too.
Emanuel has been closely watching the 2-year Treasury yield, which recently hit 5% for the first time since November 2023. Stocks subsequently sold off in tandem with the move.
“The reason it might be more of the concern at this point is because of that implicit promise that markets have traded on of three [Fed rate] cuts dialed back,” Emanuel said. “And if you look at it going back to March, I think it’s a lot more than a coincidence the market rolled over from the highs literally precisely the moment the market started pricing in fewer than those three promised cuts.”
Morgan Stanley chief investment officer Mike Wilson wrote in a research note on Sunday that with the 10-year Treasury yield (^TNX) now handily above the critical level of 4.35% to 4.40% he’d been watching, higher yields could weigh on stock valuations moving forward.
“If yields stay at current levels over the next 3 months, multiples could face ~5% downside within that period all else equal (which would equate to 4700-4800 on the S&P 500),” Wilson wrote.
Wilson notes that with elevated yields, any move higher from here will “largely have to be earned through earnings upside rather than multiple expansion.”