Investment Banks Turn Sour on U.S. Equity Outlook
(Bloomberg) -- Warnings are getting louder that the relentless runup in American equity prices is set to falter.
Strategists at Goldman Sachs Group Inc., Morgan Stanley and Citigroup Inc. issued fresh missives on the potential for negative shocks to upend a streak of gains. The spreading delta virus strain, a flagging global growth recovery or moves by central banks to exit pandemic-era stimulus programs all pose risks.
“High valuations have increased market fragility,” Christian Mueller-Glissmann, managing director of portfolio strategy and asset allocation at Goldman Sachs, said in an interview. “If there is a new negative development, it could generate growth shocks that lead to rapid de-risking.”
Positioning has become ultra-bullish, with longs on the S&P 500 outnumbering shorts by nearly 10 to 1. Half of those bets are likely to face losses on a drop in the index of as little as 2.2%. And even a small correction could be amplified by forced long liquidation, Citigroup strategists led by Chris Montagu warned.
Morgan Stanley slashed U.S. equities to underweight and global stocks to equal-weight on Tuesday, citing “outsized risk” to growth through October. Credit Suisse Group AG, meanwhile, said it maintains a small underweight on U.S. equities due to reasons such as extreme valuations and regulatory risk.
While no one is predicting a sharp selloff, a summer stock binge has left investors over-extended and vulnerable to any hint of bad news. After seven consecutive months of gains in the S&P 500 Index -- the longest since January 2018 -- many see equities ripe for a pullback in the seasonally poor month of September.
“We are going to have a period where data is going to be weak in September at the time when you have a heightened risk of delta variant and school reopening,” Morgan Stanley cross-asset strategist Andrew Sheets said in an interview with Bloomberg TV Wednesday. “If the data does stay soft, the market valuations just haven’t adjusted like other parts of the market have.”
Retail investors are seen as the key force behind recent gains. They plowed almost $30 billion of cash into U.S. equities and ETFs in July and August, the most in a two-month period, according to JPMorgan Chase & Co. They could also be the bedrock that could keep the market stable, as long as easy money policies persist, according to JPMorgan.
“Retail investors have been buying stocks and equity funds at such a steady and strong pace that makes an equity correction looking rather unlikely,” JPMorgan global strategists including Nikolaos Panigirtzoglou wrote in a Sept. 1 note. “Whether the coming Fed policy change changes retail investors’ attitude towards equities remains to be seen.”
Those attitudes will eventually be tested by policy makers at the Federal Reserve and European Central Bank who are laying the groundwork to scale back asset-purchase programs. While traders aren’t expecting any news on a Fed taper until November at least, and rate liftoff much further down the road, it wasn’t so long ago that rate hikes hobbled another raging bull market in 2018.
Technical signals also point to a downturn, with momentum and volatility suggesting institutional sentiment is overheated, according to analysis by Bloomberg Intelligence.
“The key point here is there is very little buffer left if you get large negative surprises,” said Mueller-Glissmann.
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