Growth Unwind Late Innings, Democrats Gain More Momentum - Transcript

Welcome to RBC’s Markets in Motion podcast recorded September 19th, 2022. I’m Lori Calvasina, head of US equity strategy at RBC Capital Markets. Please listen to the end of this podcast for important disclaimers.

This week in the podcast, we reflect on some of the most interesting things we saw last week in terms of our high frequency data updates. Three big things you need to know: (1) Positioning in the Growth trade no longer looks worrisome. (2) Democrats continue to gain momentum in polling data, stoking election angst among US equity investors. (3) Valuations are starting to look reasonable again for the S&P 500.

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Takeaway #1: Positioning in the Growth Trade No Longer Looks Worrisome.

  • We were on the road last week presenting at various conferences. On Tuesday, we were attending the RBC Global Industrials Conference (where most companies painted a rosy picture of underlying demand) when CPI came in hotter than expected, roiling stocks and taking the Nasdaq down more than 5% on the day. The ferocity of the unwind made Friday’s CFTC release on futures market positioning even more interesting to us, as it captured the data as of the preceding Tuesday.
  • What we learned is that as of Tuesday, positioning in Nasdaq futures among asset managers was fairly stable week over week but down 85% from its mid-August 2022 high, a level that was fairly close to the peaks of 2014–15, early 2021, and early 2022. We’d been highlighting the peak-like positioning by asset managers in Nasdaq futures as a reason that the Growth trade needed to pause in the near term. Increased hawkish rhetoric from the Fed, a move up in the 10-year yield, and last week’s CPI print were the triggers for the underperformance we’ve seen in Growth recently, but the stretched positioning made this segment of the market vulnerable to these negative catalysts.
  • While it’s too early to say that Nasdaq positioning has bottomed (it’s still a bit above historical lows), it’s important to note that the unwind does appear to be later-innings based on what we are seeing in this data.

Moving on to takeaway #2: Democrats Continue to Gain Momentum in Polling Data, Stoking Election Angst Among US Equity Investors

  • Something else that caught our eye in our high-frequency indicator updates last week is that Democrats have now pulled firmly ahead of Republicans in the generic Congressional ballot. The improvement in the polling data for Congressional Democrats has come in the aftermath of the passage of the Inflation Reduction Act, alongside improved polling for Biden (as gas prices have declined), and in tandem with an uptick in volume in betting markets, which has seen expectations shift back in favor of Democrats over Republicans in the Senate.
  • While most of the focus over the last week has been on the Fed, inflation, and a preannouncement from a company seen as a major economic bellwether, we think the shifts under way in expectations for the midterms has been another important, contributing factor to recent market volatility, which seems unlikely to resolve anytime soon.

Wrapping up with takeaway #4: Valuations Are Starting to Look Reasonable Again for the S&P 500

  • As of Friday’s close, the S&P 500 had fallen more than 10% from its mid-August high, and a retest of the June lows appears increasingly more likely. With the stock market moving so quickly, we are keeping a close eye on valuations.
  • And there we find a bit of good news. Following the recent declines, the top-down P/E of the S&P 500 is below average on last year’s EPS (18.3x), on this year’s EPS using consensus forecasts (17x), and on this year’s EPS using our own EPS forecast of $218, which is meaningfully below consensus (17.8x).
  • The index is still a bit above average on next year’s EPS using our $212 forecast (which is also well below consensus). It’s worth noting that the S&P 500 will be starting to approach the average on that particular version of the P/E multiple if and when the index returns to its mid-June low (by our calculation, the average will be achieved if the S&P 500 hits 3,561).
  • While there is still a lot of uncertainty about the earnings outlook for the stock market broadly on the buy-side, we suspect that investors will not allow stocks to stay too cheap for too long given the prevailing view among investors that any economic downturn will be fairly short and shallow.

That’s all for now. Thanks for listening. And be sure to check out our sister podcast, RBC’s Industries in Motion, for specific thoughts on sectors from RBC’s team of equity analysts.