17% downside as equity inflation hedge fades

  • US stocks could fall an additional 17% from current levels as the power of corporate earnings wanes, according to Mike Wilson of Morgan Stanley.
  • The big concern is that stocks no longer provide the inflation hedge many investors hope for, Wilson said.
  • “The S&P 500 real earnings performance is the most negative since the 1950s,” Wilson said.

The S&P 500 could see a further 17% drop from current levels as stocks don’t provide the inflation hedge investors are hoping for, Morgan Stanley’s Mike Wilson said in a note on Monday.

That’s because the S&P 500’s real earnings yield has sunk deeper into negative territory since the 1950s, when inflation soared to 40-year highs.

“With inflation so high and earnings growth slowing rapidly, stocks no longer provide the inflation hedge that many investors count on,” Wilson said, adding that real earnings performance tends to lead returns. share prices year over year in about six months.

That means stocks could still see a significant drop from current levels as the S&P 500 real earnings yield slumps. At a minimum, Wilson expects the S&P 500 to trade at 3800 anytime soon, which represents a potential drop of 8% from current levels.

But the S&P 500 could fall as low as 3,460, which represents a possible 17% drop from current levels and is marked by the 200-week average of the S&P 500. That gloomy scenario would be driven by the possibility that estimates of S&P 500 12-month EPS begin to decline at the margin and


concerns, according to the note.

And that’s a real possibility because supply chain disruptions have eased in the first quarter and inventories are starting to build.

“This dynamic playing out at the same time that demand is slowing from an exchange rate standpoint increases the likelihood that excess inventory is building up right now in FMCG channels, a risk for prices,” Wilson said.

On the other hand, if China continues to struggle to deal with an outbreak of COVID-19 cases, supply chains could tighten up again.

“Either way, it’s not a bullish result for consumer goods stocks or others that have benefited from this scarcity and pricing power,” Wilson said.

Wilson reiterates his long-standing view that the stock market should be trending lower rather than higher due to record-high inflation, rising interest rates, and a dire outlook for both consumers and investors. the corporations. For now, with the S&P 500 down about 14% year-to-date, Wilson’s caution is proving warranted.

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