Daniel Shainberg
January 22, 2019
January 22, 2019
Stocks tank as economic jitters intensify. The S&P 500 shed 1.4% and the NASDAQ dropped 1.9% as the blame was placed on weak Chinese economic data, a lack of progress in negotiations for a U.S. / China tariff deal and further weakness in housing numbers, specifically new home sales.
Existing home sales in the U.S. tumbled to a 3-year low, baffling brokers who have yet to understand the correlation and impact of rising rates on home affordability. The National Association of Realtors said that existing home sales declined 6.4% to a seasonally adjusted annual rate of 4.99M units in December. Rising mortgage rates and tight inventory are not a healthy mix for sales volumes, and the continued federal government shutdown is not helping.
Today’s news though is reflective of the broader trend in the economy that investors have started to “price into” the equity markets. Namely, that the likelihood for a domestic recession after a decade long bull run is growing more intense, a message echoed by Bridgewater’s Ray Dalio. Dalio warned Tuesday that there is a “significant risk” of a recession by 2020. Once factoring in the potential for a reversal in the multi-decade trend of declining interest rates, the CAPE ratio on the S&P 500 suggests a multiple that needs to correct lower. As we have said before, if risk free rates are trending towards the 4% range, risk assets such as publicly traded equities need to adjust to factor in the required risk premium. Assuming 400bps of incremental return, an 8% implied earnings yield on $175 per share of S&P 500 earnings would put a median price target on the S&P 500 at about 2,200 for another 15% selloff, and that assumes no degradation in earnings quality.
Dan Shainberg
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