I did a deep dive into my sector (GICS L-1) work last week. Although there remains an elevated level of headline macro news and the ongoing tug of war regarding the future path of Fed policy, my key indicators have remained quite stable and are not suggesting any major sector changes at this time. With that being said, I have put several on watch for future changes with the most interesting being the possible upgrade of Energy back to above Neutral.
Thus, my recommendations remain as follows: 1) Tilt Above — Heath Care, Staples, Technology, and Utilities; 2) Neutral — Comm Services Energy, and Real Estate; and 3) Tilt Below — Industrials, Materials, CD, and Financials, which have been below benchmark since last summer.
My work still flags Cyclicals as the area with the most at risk, especially as the recent economic data is showing slowing growth. This process has much further to go until the bad news and the challenging macro backdrop are OVERLY discounted, which will likely precede THE equity market bottom. Until then, I continue to advise caution, patience, and to remain fully alert for opportunities as 2023 will likely remain quite volatile.
MACRO / BIGGER PICTURE CONCLUSIONS
- Despite marginal signs of less labor market strength, the data has not shown outright weakness and that makes the Fed’s inflation fight harder.
- I am going to lower my terminal rate range from 5.50-6.5% to 5.25-6.25% and I will also keep this new forecast on a downgrade watch.
- The economy looks headed towards a shallow recession.
- Corporate profit expectations remain too high and need to be lowered.
- Importantly, the immediate upside potential for the S&P 500 still appears limited, at best, while considerable downside risk remains for equity investors.
- Cyclicals, Lower Quality, and Smid cap are where the risks are greatest based on my indicators.
- Single stock opportunities are sparse, but they are expected to increase.
- Tilt Above — Heath Care, Staples, Technology, and Utilities
- Tilt Below — Industrials, Materials, CD, and Financials