MARKET COMMENTARY

A Dose of Reality for the Equity Market

09.04.2020 - Carin L. Pai, CFA

Last week's sell-off was severe, but this risk-off move was confined to stocks, while bond yields, inflation expectations and credit spreads were stable. This decline in equity levels continued today.

What led to the current selloff in equity markets?
There were no specific catalysts that led to the decline, other than an apparently overdue rotation out of momentum stocks and a large number of options contracts expiring. The equity market had soared 56% since it bottomed in March, while the S&P tech sector had returned nearly 80% for the same period.1 Recently, market sentiment has been nearly impenetrable with investors seemingly motivated by a fear of missing out on the upward trend. However, looming concerns exist including rising bankruptcies and the need for continued fiscal support. We think that the market has moved away from economic fundamentals and corporate profits.

Growing concentration in the FAAMGs
We have become increasingly concerned about the growing concentration in five of the S&P 500’s largest stocks. Referred to as the FAAMGs, the group includes Facebook, Apple, Amazon, Microsoft, and Google. Together, they comprise nearly 26% of the index’s market capitalization exceeding the Top Five’s 18.5% during the Tech Bubble.2

Stock valuations are nearing two-decade highs
Zero interest rates and Federal Reserve liquidity, along with a weak dollar, have helped boost S&P 500 stock valuations to a high of 22x forward estimated earnings, approaching the level (25x) last seen in 2000.3 The Fed seems determined to keep rates low to support the economy and achieve its inflation target. That, however, doesn’t mean the market can’t suffer an occasional downturn along the way.

A shift from growth to value stocks may now be underway
It is likely that the market is experiencing a short-term correction or a rotation from growth to value stocks. Given that growth has, in our opinion, significantly outperformed value since 2017, as well as most of the past decade, such a shift may be overdue. Recently, we have noticed an improvement in value stocks. However, we view this rotation as a temporary event as growth stock earnings will likely continue to outpace value.

What we expect in the near term
We would not be surprised to see up to a 10% market correction occur over the near term. In fact, this may withdraw some excess froth and speculation from the market. Although a sustained downturn in equities seems unlikely, given monetary and fiscal support, investors should also be prepared for the unexpected.

Our portfolios are positioned with this view as well as an adequate cash cushion. We are also being disciplined around rebalancing equity exposures on strength and selectively taking profits when prudent. Our team remains focused on companies exhibiting balance sheet strength and increasingly stable cash flow growth with attractive yields at reasonable prices.


1. Source: Bloomberg, as of 8/31/20, 2. Source: Bloomberg, as of 9/4/20; 3. Source: Bloomberg, as of 9/4/20.

The information provided is intended solely to provide general information. The information and opinions stated may change without notice. The information and opinions do not represent a complete analysis of every material fact regarding any market, industry, sector or security. Statements of fact have been obtained from sources deemed reliable, but no representation is made as to their completeness or accuracy. The opinions expressed are not intended as individual investment, tax or estate planning advice or as a recommendation of any particular security, strategy, or investment product. Please consult your personal advisor to determine whether this information may be appropriate for you. This information is provided solely for insight into our general management philosophy and process. Historical performance does not guarantee future results and results may differ over future time periods.

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