Cyclicals vs Defensives

Bulls and bears have capitulated, and the majority of the clients surveyed expect a rangebound market in the near term. Our fair value PE NTM indicates that the S&P 500 is only modestly overvalued. The continued outperformance of the Magnificent Seven faces multiple hurdles. Meanwhile, fiscal spending is unlikely to create an impetus for another leg up in equity performance.

US fiscal, monetary, and foreign policies are unlikely to deliver any dovish surprises for investors in Q4, due to the impending government shutdown, persistent inflation, and instability among OPEC+ and China.

Stocks should continue to rally in the near term, but investors should prepare to turn more defensive towards the end of the year in advance of a recession in 2024.

Investors should prepare for an equity market pullback this fall, prefer Treasuries over stocks, and US defensives over cyclicals. A pullback could also morph into another bear market given that monetary policy is tight, policy uncertainty will spike, global growth is slowing, and geopolitical risks are still high.

European real GDP growth is stabilizing, so why would European equities continue to trade sideways for the remainder of the year? The answer lies with nominal growth and its impact on earnings.

Outperformance of Growth sectors most likely has run its course. It is time to shift Growth vs. Value allocation to neutral, downgrade Semis, and upgrade Energy to overweight.