From a certain point forward, there is no turning back. The stock market reached that point last week.
Oh, the market was hopeful, going into the week, that inflation had reached its peak, that the Federal Reserve would stop raising interest rates soon, that the bottom was in. All the goodwill was wasted and dashed, sending the major indexes to their worst day since 2020.
(ticker: FDX) decided to tell investors — a week early, mind you — that its earnings were terrible and that it was withdrawing its guidance for the full year. All this happened the week before the Fed meets to discuss the next rate hike, which is likely to be another 0.75 percentage points.
There is no avoiding, now, what is coming, and the stock market knows it. The IS
Dow Jones industrial average
fell 4.1% for the week, and the
index fell 4.8% and the
“Investors are facing the reality that the Fed has more work to do and the risk of a recession is high,” says Dave Donabedian, chief investment officer at CIBC Private Wealth US. “We’re not talking about putting more money to work in the equity markets. We preach patience.”
That seems to go against the maxim that it often pays to be optimistic when everyone is predicting the worst. Sundial Capital Research’s Jason Goepfert notes that less than 1% of the stocks in the S&P 500 finished higher on Tuesday, which has happened only 28 other times since 1940. The index gained 15.6% on the averaged over the following 12 months, and was higher 79% of the time.
So is this a buying opportunity?
It is not so fast. At times, the market may become “oversold,” noted Doug Ramsey, chief investment officer at the Leuthold Group. That could be a prelude to further declines, as happened in 1998, before the collapse of Long Term Capital Management; in 1987, before Black Monday; and ahead of the worst selling in the 1973-74 bear market. “Most of the worst short-term declines in the market have been preceded by oversold conditions,” explains Ramsey.
The odds are increasing. The Fed doesn’t care that inflation is under control, and that could mean rates are going much higher. Where investors once worried about a 3.5% closing rate, now they are talking over 4%, or even 5%. And once the Fed gets there, it’s likely to stay there rather than start cutting rates right away.
But bear markets usually don’t end — and bull markets don’t begin — until the Fed begins to ease, according to Ed Clissold, chief US strategist at Ned Davis Research, and sometimes not until after the second rate cut. When a bear market ends before the Fed finishes raising rates, a second bear market usually occurs. “History suggests that the tightening cycle will cause more pain in the stock market,” Clissold writes.
Even if that turns out to be wrong, there is no time to be a hero. Nordea Asset Management strategist Sebastien Galy notes that investors should try to identify companies with “attractive value and lower risk solutions that are resilient across multiple scenarios and styles, ” a long way of saying quality stocks. “We can do our best to manage these complex risks and start positioning for the next few quarters at the right valuation,” he concludes.
Or simply wait it out.
Write to Ben Levisohn at Ben.Levisohn@barrons.com