Well, if it’s a bearish outlook for stocks you’re looking for, you can find it in the form of SocGen’s 2019 equity outlook, which clocks in at a truly impressive 134 pages, most of which – thank God – are comprised of charts.
“After a challenging year for risky assets in 2018, we see further downside potential to global equity indices for the next 12 months”, the bank writes, adding that “the specter of a US recession in early/mid-2020 would impact equity markets in 2H19.”
That it would. Of course that assumes you think a recession is on the horizon, which more than a few folks do, if for no other reason than the fact that cycles have to turn at some point, otherwise they aren’t “cycles.”
Anyway, SocGen adopts the same general tone as Goldman when it comes to U.S. stocks, calling 2019 “a year of risk”. The first headwind the bank cites is gridlock inside the Beltway. You might recall that while (virtually) everybody else on the Street predicted that a divided Congress would actually be a positive development for equities, SocGen wasn’t so sure.
“The political and economic agenda has driven the financial markets for the past two years – so political gridlock and uncertainty will not come without pain”, the bank wrote, a day before the elections.
SocGen reiterates that sentiment in their 2019 outlook. “[Divided government] could have serious market and economic consequences, such as potentially more frequent government shutdowns, impeachment considerations and general uncertainty”, the bank warns, on the way to noting that “at this late stage in an already lengthy expansion period, uncertainty could be more damaging.”
Of course Trump’s stimulus has left the U.S. with almost no breathing room to respond to a downturn with fiscal policy.
The bank’s read on monetary policy is straightforward: Tighter policy equals trouble for risk assets. To wit:
US financial assets benefited from an ultra-accommodative monetary policy, with Fed funds below the core inflation rate for a decade (until it changed in October). Our scenario assumes three more rate hikes, lifting the Fed funds to 3% by June 2019, putting pressure on equities through three channels: 1) it would push higher the WACC (weighted average cost of capital) and thus lower the valuation of equities; 2) flow wise, investors would reallocate into cash in USD out of other assets (including equities); 3) the Fed funds rise is a typical sign of the end of the cycle (flattening/inversion of yield curve…)
There’s nothing particularly controversial there, which I suppose it what makes it disconcerting. It also echoes the consensus view that the rise of USD cash as a viable alternative is perhaps one of the most daunting headwinds for risk assets in the new year. On the bright side, the call for “just” three more hikes from Jerome Powell’s Fed is at least more dovish than some desks (Goldman and JPMorgan, to name two).
Finally, SocGen predicts a U.S. recession in early/mid 2020, something folks will start pricing in sometime during H2 next year assuming markets are any semblance of efficient.
“Cyclical concerns could be a major market driver in the 2H19, when GDP growth is already expected to decelerate”, the bank says, before suggesting that while “the jump in productivity in mid-2018 contained unit labour costs and raised margins”, going forward the tight labor market, rising wage inflation and the propensity for management teams to try and avoid passing along costs to consumers in the form of higher prices, “should narrow margins and reduce incentives for investment and hiring.”
There’s more, but the bottom line here would appear to be that SocGen’s base case (SPX 2,400) is going to be one of the lower 2019 year-end targets among Wall Street banks. For context, Goldman’s downside case (to which they only assign a 30% subjective probability) is 2,500.
The question, then, is whether SocGen will be forced to revise up their target or whether the rest of the Street will end up catching down to the bank’s reality as things unravel.