The bear market in stock markets is forecast to intensify before giving way to more optimistic signals later in 2023, according to Goldman Sachs Research.
The MSCI All Country World Index of global equities has fallen about 19% this year. Although stocks have risen somewhat since the summer, our strategists predict more volatility and decline during this bear market before bottoming out later in 2023. They expect interest rates to rise and for the deterioration of economic growth to stabilize before a sustained rally in equities has begun.
The fundamentals driving the global equity market have changed dramatically, writes Peter Oppenheimer, chief global equity strategist and head of European macro research. In the team’s 2023 Outlook, he pointed out that, in a change from previous years, the cost of capital has risen significantly, hitting valuations for fast-growing companies whose profits are expected that will happen in the future. Big tech companies’ earnings fell behind analysts’ expectations.
Higher interest rates and commodity prices make quality companies with reliable earnings and cash flow more attractive. “There is something of a change in the relative fortunes between traditional incumbents and digital new entrants in many industries,” our strategists wrote. They favor companies with high dividends, strong balance sheets and high margins.
At the same time, investors may have to weather a prolonged bear market. There are two main types – the “cyclical” driven by a slow economy and rising interest rates, and the “structural” driven by a shock such as an asset bubble or disaster, according to Goldman Sachs. Research. This decline is of the cyclical variety, which usually lasts 26 months and takes 50 months for stocks to recover. Equities often fall 30% and are beaten in short rallies before the market bottoms in these cycles.
There are several key reasons why our strategists think stocks may fall further. While valuations have declined this year, they began at a very high peak amid record low interest rates. Although many equity markets around the world are trading at low valuations, US stocks are not – American equity valuations are still at levels consistent with the peak of the tech bubble in the late 1990s.
Some of the differences in valuations are probably explained by better expectations for the growth of the US economy and a stock market with a different mix of companies. But even with that in mind, GS Research says it’s hard to justify why the US market is trading in line with its 20-year average. That’s especially so when margins at big tech companies are under pressure, resulting in job cuts and reduced investment. And meanwhile, yields on government and corporate bonds have risen enough to make them a competitive alternative to equities.
Historically, the best time to buy stocks is when economic growth is weak but approaching stabilization. But while the outlook for expansion is expected to improve later this year, that hasn’t happened yet. “Timing is everything,” according to Goldman Sachs Research strategists. “A weak economy that is still getting worse is very different from an economy that is slowing down.”
Goldman Sachs Research predicts recessions in Europe while the US narrowly avoids a recession. But even if the world’s largest economy continues to grow, our equity strategists say there is a strong risk that investors will price in a higher chance of a US recession before the stocks come to the bottom. Their base case is that revenues are flat in 2023.
The peak in interest rates is likely to be bullish for stocks. However, our strategists think bond yields have room to rise, in part because US policymakers are focused on keeping financial conditions tighter to help with internal inflation. It is also unclear how long rates will remain high before central banks are willing to lower borrowing costs. Economists at Goldman Sachs do not expect any rate cuts from the US Federal Reserve in 2023.
Investors’ positioning, on the other hand, indicates that the market has not yet reached its trough. By some measure, investors are becoming more defensive and repositioning their portfolios to take less risk, but inflows into equity funds are still strong, especially in the US Our strategists expect to see more signs that investors have given up on the bear market in the past. stocks are going to bottom.
The “hopeful” phase of the global stock market may begin later this year, according to Goldman Sachs Research. These recoveries often begin during recessions as valuations rise. Historically it is better to invest in stocks after a trough than before: the average 12-month return is higher one month after the trough than one month before it. “For this reason, we think the position is too early for a potential bull market shift,” Goldman Sachs strategists wrote.