Why the S&P 500’s ‘bounce in a bear market’ could run out of steam before hitting 4,200

Add another voice to the growing chorus of opponents of the persistence of the recent rally in US stocks.

The stock market rally since the Federal Reserve’s last rate hike in late July appears increasingly out of step with macroeconomic fundamentals, particularly the booming U.S. labor market, the economist at Mizuho Securities warned Monday.

While many investors have been betting on the Fed to back away from its aggressive rate-hike stance next year, they risk “ignoring a host of important considerations,” wrote Steven Ricchiuto, chief U.S. economist at Mizuho Securities and Alex Pelle, American economist. in a Monday client note.

“For starters, the projected policy reversal in 2023 necessitates a highly unusual deceleration in inflation from the more than 9% year-on-year rise reported last month,” the team wrote. .

“Alternatively, a policy reversal in 2023 could be triggered by an unforeseen financial meltdown, but these types of dislocations are never good for risk assets, so again the rally in equities appears out of sync with macro fundamentals.”

In addition, Senate Democrats’ approval on Sunday of the Cut Inflation Act, a major health, climate and tax package that includes corporate tax increases, “suggests markets need to embrace tighter fiscal policy on top of ongoing Fed tightening,” the team wrote.

President Biden on Monday called the bill a measure that “is going to help immediately,” including provisions that include a $2,000 cap for seniors on prescription drug costs.

But Ricchiuto and Pelle warned that the bill also risks stunting business growth and profits. “As such, we view the recent rally as another rally within a bear market that is likely to run out of steam before 4200 on the broad market index, implying that this is now the upper end of the trading range.”

The S&P 500 SPX index,
-0.13%
was lower on Monday, after Friday posted its best three-week percentage gain since April 1, according to Dow Jones Market Data. The index was still down 13.3% on the year, near 4,130, through Monday, according to FactSet.

US bond markets also rallied from their worst levels of the year, helped in part by the 10-year Treasury rate TMUBMUSD10Y,
2.761%
found a foot above 2.7%. Specifically, while the US investment grade corporate bond market was posting a negative 11.5% annual total return through August 4, its performance has improved from its June low (see chart).

Stocks and bonds improve from worst levels in 12 months

Mizuho Titles

Even so, economists at Mizuho said investors are “counting on rate cuts by the bond market in 2023” to suggest investors are “betting the labor market is
ready to crack what the data does not show.

Others took the opposite view of the debate over the likely direction of stocks, including Jefferies strategist Andrew Greenebaum.

Lily: A booming stock market is about to signal a “huge” move – but there’s a catch

Mizuho’s team has always urged caution, saying it would take a “major and sustained” pause in the labor market for the Fed to reverse course on fighting inflation.

See: Suddenly stock investors grapple with ‘boomflation’ after July jobs report

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