As you already know from my articles in the past, we have been highlighting the downside risks to equities. But when we had that big rally yesterday, a lot of market bulls wondered whether something had changed, although we maintained our bearish view. Lo and behold, the selling resumed today. Yesterday’s gains, gone. Sentiment, bearish. Once again, the market showed no upside follow-through. It is trapping the bulls. It appears as though Santa Rally is not happening this year. And you can understand why that may be the case, but first here’s how the S&P looks after today’s brutal selling:
Unsurprisingly, this current macro environment is not one you would associate with excessive risk-taking and that’s how it has proved once again. The economic outlook is not going to change overnight, which means much of the issues we are facing right now could well be with us well into 2023. And after a big rebound starting in October, much of the positivity about the Fed pivoting to a less hawkish stance has now been priced in. So, I reckon that the risks are skewed to the downside for stocks in 2023.
While optimism about inflation peaking may keep the downside risks limited, that is all I can think of in terms of something that could provide support for stocks. However, you can argue that at least some of this peak-inflation narrative is already priced in after the markets surged higher from their October lows. Without seeing a strong economic recovery to help boost revenue and profit for corporates, the equity markets will likely struggle to go higher in early parts of 2023
Something else that has been providing support all these years had been central bank support in terms of QE and record low interest rates. This is not going to be there anymore, with inflation is still very high. Government stimulus will be limited, if any, after they already spend vast amounts to help during the pandemic and now with energy crunch in Europe.
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