As Dickens said the worst of times is the best of times
Those waking up this morning hoping for some good news, some signs that parties were looking to compromise or negotiate, will be sadly disappointed. After a nearly 10% fall in the S&P 500 last week, futures markets look pretty ugly again this morning, as Asian markets took another hit overnight. The S&P 500 is on course for its worst three-day selloff since the Black Monday crash of October 1987. And there are not many of us around who still remember that time. I being one.
The S&P 500 actually made slight gains at the start of last week, clearly suggesting that equity investors were unprepared or had decided that any tariff announcements were priced into the market. To put this correction into context, in a league table of sell-offs, this comes third after COVID-19 and the Financial crisis. China retaliated by announcing reciprocal tariffs on Friday, adding to investor fears as to what the ultimate damage could be to the global economy.
Investors will start clutching at straws now. Those who like charts will be looking for support levels, most of which have been blown through. The Vix index has only been higher than where it is today twice in the last twenty years, confirming that any greed has now turned into real fear.
According to FactSet, the market is forecasting the earnings for all the S&P 500 to be $280 a share for next year; take a 10% downgrade, and you get to roughly $250. Put that number on an 18X multiple, and that puts the S&P 500 at approximately 4500. Just under 10% lower than where it closed on Friday and about 6/7% lower than where it is indicating opening this morning. So one could argue that after a 20% fall from the peak, we are potentially closer to a bottom than a top. The question then becomes, how much do you derate the market? Take it back to 16X, its historic average; you could expect another best part of 20%. One can fiddle around with these numbers all day. The Mag 7 index has lost roughly a 3rd of its value and now trades on closer to 20X than the 30X it was on not so long ago, assuming current earnings forecasts.
These times are awful as one studies one’s portfolio, but they always present the best opportunities. The Mag 7 is on sale 30% where it was trading not so long ago. What happens next? Well, the bond markets are telling you they expect the Fed and the Bank of England to cut interest rates more aggressively than they were. The market is now pricing in three cuts from the Bank of England this year. Powell remained noncommittal on Friday when speaking to journalists; Trump made it clear that he expected the Fed to react. We have to wait till May 6/7 for the next Fed meeting. Later this week, we get the monthly US inflation data. Usually, this would be the week’s focus ahead. This time, investors have other things on their minds.