Equity complacency rebutted
Blake Gwinn: There has been a persistent narrative among market participants pointing to performance in risk assets. We’ve had equities repeatedly hitting all-time highs over the last few weeks and last month, and they are saying that the markets are completely missing the boat on Iran risks — that can be in terms of how long the conflict will ultimately last, the breadth of the impacts beyond just oil and gas prices, how it’s going to affect fertilizer, helium, all these other things. Have equity markets lost the plot here?
Lori Calvasina: I do not think there is complacency in US equities. I can tell you just from having this conversation there’s concern, there is wariness — but investors are also listening to what companies are saying. They’re referring to the playbooks that they put into place most recently around tariffs. They’re talking about supply chain management. We’re also noticing conversations about inventories and hedges — I call these collectively “buffers.”
“I do not think there is complacency in US equities.”
Lori Calvasina, Head of U.S. Equity Strategy, RBC Capital Markets
Updated S&P target
Calvasina: We actually have just updated our price target for the S&P 500. We upped it a little bit — we had been at 7,750 and moved it up to 7,900. We have spent a lot of time thinking about the two sides of the economy — the fast lane, the AI lane, and the slow lane impacted by the Middle East — taking both into account from both an earnings and valuation perspective. I can still get you 7.7% appreciation in the S&P 500 over the next 12 months very easily.
Downside, upside scenarios
Gwinn: Let’s say tensions continue, this cycle of escalation and deescalation just keeps rolling on into the summer, oil drifts back up into the $110–$120 range and stays there for a few months, and some of those time-limited buffers you were just describing start to expire — we’re seeing scattered shortages across supply inputs, not just here but across the globe. That’s the downside scenario. On the other side, let’s say — completely theoretical — Trump and Iran announce some kind of deal tomorrow, everyone starts standing down, and we get this process of turning back on the flow of oil and goods through the strait. How do you see those two different scenarios playing out in equity markets?
Calvasina: Let’s stick with the more constructive scenario first and then we’ll look at the more bearish scenario. If we just take the consensus macro: so more benign inflation at 2.9%, another cut from the Fed by Q1 next year, and 10-year yields behave, I’m looking at roughly a 25x PE multiple on consensus earnings, completely unadjusted. Everybody’s right, you’re getting to around 8,700 on the S&P 500. If I just keep the current macro assumptions — 3.3% CPI, flat Fed, 4.5% on the 10-year — that implies roughly a 24x PE. If I then take earnings down in Q1 next year by 5% — not a haircut to consensus, but actually taking the numbers down — that gets you to around 6,700 on the S&P 500.
Rates pricing Iran
Calvasina: So let’s get back to this complacency argument we started discussing earlier from the equity side. What do you think rates investors are pricing in with regards to the Iran war?
Gwinn: I don’t think it’s as extreme as the equity side. Usually, when you hear this narrative, it’s people pointing at the all-time highs in equities, et cetera. I think in the rate side, we’ve repriced a bit in the hawkish direction. I think maybe the better way to describe it is we’ve taken out some of the dovish bias, and now we are pricing something that looks a lot more like a flat distribution. I think those two sides are pretty evenly balanced, and the markets are pretty well reflecting that. So I don’t see things as unfairly priced.
“We’ve taken out some of the dovish bias, and now we are pricing something that looks a lot more like a flat distribution.”
-Blake Gwinn, Head of U.S. Rates Strategy, RBC Capital Markets
The Fed stays sidelined
Gwinn: A lot of that is simply because the Fed is going to be, for better or worse, a little boring for the time being. We have the Fed on hold for the rest of the year. I think the risk around Iran, aside from being two-sided — is it going to be a bigger upside inflation problem, or is it going to be a bigger demand destruction, drag on growth, something that actually turns them dovish? Aside from that, they also don’t know the timeframe. So it’s going to be a while, I think, for them to really figure that out.
