#113 – Historical Stock Market bottoms

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#113 – Historical Stock Market bottoms

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Stock Market Bottoms – In this article you’ll find:

  • Stock Market – Let’s introduce the quality and value resilient factor
  • What is the path forward with inflation & interest rates
  • Stock Market – How investors could behave in this challenging market
  • Which risks we should keep in mind

Here you can find other articles:

  1. India Set to become 3rd largest economy by 2029
  2. Is China the big player of 2023?
  3. Unemployment low (for now) and no good news in horizon about it

ENJOY THE ARTICLE

The International Monetary Fund (IMF) has forecast lower global economic growth over the next few years, with regional variations.

In terms of contributions to global growth, the Organization for Economic Cooperation and Development (OECD) forecasts EM Asia to take a larger share in 2023, led by India and China, whereas North America and Europe are expected to take a smaller share.

Stock Market – Has inflation peaked?

The OECD projects softer inflation for developed markets over the next two years (see right below).

Stock Market

By MSCI the impact of major central banks raising interest rates to combat inflation has led to the highest corporate borrowing costs since the 2008 global financial crisis (see chart below).

Greater borrowing costs could weigh on corporate earnings, particularly for those companies that are highly leveraged.

Stock Market

Big shifts in market dynamics

Some investors may see such significant shifts in market dynamics as opportunities to consider active allocation decisions targeting explicit exposures across various time horizons.

Traditional market-capitalization indexes across regions, sectors and countries continue to serve as staple building blocks for investment products used in asset allocation.

However, non-market-cap indexes that can help create products targeted to meet additional objectives.

Taking exposure to thematic trends, may allow investors to more precisely seek objectives reflecting their views.

Stock Market

Stock Market – Quality resilient factor

Quality has historically been a resilient factor in uncertain and volatile environments.

It has also been shown that high-quality firms have historically fared well during market sell-offs in the growth and value segments of the EM, U.S. and international markets.

And value?

Value has generated positive active returns over extended periods of time,

as witnessed from 1997 to 2010, with the decade between 2010 and 2020 puzzling both academics and practitioners.

However, above-average inflation and higher interest rates may continue to favor “shorter duration” assets and hence value.

Country allocation

Some investors may take a more active approach to capturing single-country opportunities in 2023.

The IMF forecasts GDP growth to be stronger in EM Asia, particularly India, Indonesia and China (as detailed above).

In markets with challenging economic growth, investors may consider a defensive stance with single country minimum volatility and/or quality strategies.

Stock Market – What is the path forward?

Looking across the past six major market lows between 1998 and 2021, cyclical sectors, including Industrials, Financials and Materials, had generally experienced valuation contractions at a level more significant than the broader S&P 500 Index.

Stock Markets as a result, based on the forward 12-month P/E multiple, cyclical sectors were priced below the S&P 500 Index at major market bottoms (that is, the below-1.0 relative valuations shown in Chart below).

On the contrary,

defensive sectors (such as Consumer Staples) as well as high-growth sectors, including Information Technology and Consumer Discretionary, were typically more favored.

Stock Market

They enjoyed a higher relative valuation at market bottom in the past.

Chart above also indicates that 7 out of the 11 sectors’ relative valuations have currently reached or declined below their historical market bottom level.

This may mean that investors are currently pricing these sectors to a market bottom condition.

However, despite recent losses in price,

the Information Technology sector may be an exception and is still expensive by historical standard.

Interest rate and inflation environment

Wells Fargo Advisors believes that interest rate and inflation environment are important factors for valuation levels.

Higher inflation and interest rates can limit valuation’s upside potential.

In such periods, investors may desire a higher level of earnings yield and price return from stocks to offset the impact of higher inflation,

as well as to compensate for the higher yield from bonds.

For example, in the 10 years from 1976 to 1985 when inflation and interest rates were elevated, the average trailing 12-month P/E ratio of the S&P 500 Index was 10x, whereas the P/E multiple averaged 18x during the low-rate and low-inflation 10-year period prior to the COVID-19 pandemic.

GDP Outlook

Despite challenges to global economic growth,

investors looking to allocate towards secular trends may look to identify specific opportunities through thematic investing.

Thematic investing is characterized as a:

  • top-down investment approach that seeks to capitalize on opportunities created by macroeconomic, geopolitical and technological trends.

Investors looked for value in a challenging market

In 2022, yield and value were the best-performing factor indexes across many regions.

Looking at the MSCI ACWI Index, yield and value added 11.2% and 5.6% active return respectively.

In a year marked by heightened volatility,

the MSCI Minimum Volatility Index reduced the risk of the parent from 21.1% to 14.3%, while adding 6.5% of active return.

Climate and ESG were mostly negative-to-flat across all regions as an underweight to oil-related industries and negative value exposure weighed on their performance.

Risk considerations

Stock markets, especially foreign markets, are volatile.

Stock values may fluctuate in response to general economic and market conditions, the prospects of individual companies, and industry sectors.

Foreign investing has additional risks including those associated with currency fluctuation, political and economic instability, and different accounting standards. 

Each asset class has its own risk and return characteristics.

The level of risk associated with a particular investment or asset class generally correlates with the level of ROI.

Join the conversation with your own take on these topics in the comments below.

About the Author

Alessandro is a Financial Markets enthusiastic and he loves learning from articles/papers on many financial topics.

In doing so he shares with you the most interesting charts and comments.

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