BCA Research predicts a significant pullback in U.S. stocks early next year, advising investors to adopt defensive strategies and hedge their risks.
Strategists, led by chief U.S. investment strategist Doug Peta, anticipate a rally in equities into January, followed by a potential decline exceeding 20% in the first half of the year. They cite multiple indicators pointing to economic weakness as the effects of pandemic-era policies wane.
Key Factors Indicating Weakness:
- Declining Consumer Momentum:
- Post-pandemic "revenge spending" appears to be tapering off.
- While household wealth and home equity surged during the pandemic, consumer-facing companies like Home Depot, Lowe's, Walmart, and Target are signaling reduced spending and increased bargain-hunting behavior.
- Analysts note, “Revenge spending has run its course, and consumption momentum is fading across a widening range of retailers.”
- Softening Labor Market:
- October employment data revealed mixed signals: job openings climbed from a four-year low, quits rates rose, but hiring rates dipped back to June’s four-year low.
- This "one-step-forward, two-steps-back" trend suggests potential for a soft landing but increases recession risks.
- Analysts warn of a cycle where layoffs lead to reduced spending, causing further payroll cuts, slower economic growth, and ultimately a recession.
- Overvalued Stock Market:
- The S&P 500 is trading at 23 times annual earnings, nearly two standard deviations above its historical mean.
- Analysts forecast earnings-per-share growth of 13% in 2025—far above the postwar average of 6.6%.
- Such lofty valuations make stocks susceptible to disruptions, especially as markets underestimate recession risks.
- “Risk assets could disappoint even without a recession, and current prices do not bode well for future returns,” the analysts noted.
Investment Strategy:
BCA Research recommends rotating out of stocks ahead of a potential bear market, planning to reenter when valuations become more favorable.
- They expect the bear market to unfold in the first half of 2024 and aim to reassess their position once the 20% decline threshold is reached.
- If equities drop by 30%-35%, they suggest overweighting stocks at that point.
The combination of fading consumer spending, labor market vulnerabilities, and extreme valuations underscores the risks to the current bull market, making caution essential for investors.
