Stocks Likely ‘Not Out of the Woods’: Fidelity Strategist

The stock market’s slide probably won’t end until the Federal Reserve’s current tightening cycle is over, Jurrien Timmer, Fidelty Investment’s director of global macro, said on CNBC as equities plunged Friday.

He also suggested on Twitter that the current market correction will require patience.

Timmer provided some key data points to indicate the market may be headed lower.

“The Fed surprised by being even more hawkish than they have been. That raises the 2-year (Treasury) yield, that raises the real 10-year yield, and to me (those two yields) are the primary drivers for this particular cycle,” he said on CNBC’s ”Squawk on the Street.“

A regression of the forward price-to-earnings ratio against those two variables shows that finding fair market value “has been a moving target,” Timmer said.

In June, 15 times forward earnings was considered fair value for the S&P 500, then came a 17% equities rally “completely unjustified by the fundamentals,” he said. 

“Now we’re back down there but now that forward P/E that’s fair value is down to 14 or even 13 times (forward earnings), and that brings you down to 3,300 or so on the S&P, so we’re probably not out of the woods,” Timmer said.

“That’s a moving target, and that’s assuming that the forward earnings estimate which is $235 for the next 12 months ends up holding,” Timmer said.

“If we end up getting flat earnings instead of plus 10% earnings, then you apply that 14X, 15X, times $219, and that gets you down towards the 3100-ish, so my sense is that this decline is not over and it won’t be over until the Fed cycle finishes and at that point we’ll see whether there’s a soft landing or a hard landing,” he added.

The S&P 500 recently was down more than 90 points at roughly 3667. The Dow Jones Industrial Average dropped more than 700 points mid-session Friday, hitting a new low for this year.

Timmer also tweeted about the equities market Friday, saying that if, as indicators suggest, the S&P 500 is headed to a new 3,500 cycle low (a 27% drawdown versus the current 25%), it would align with the 1946 post-World War II situation. The transition from wartime to peacetime economy generated high inflation and supply chain bottlenecks, and the S&P 500 fell 26% driven by multiples compression, Timmer said.

“Earnings never missed a beat … but it took three years of sideways trading before the market finally made a new high,” he tweeted. “I’m not suggesting that it will take that long for our current correction to end, but I do think that this cycle will require some patience.”

On LinkedIn Friday, Timmer noted what he called a surprising lack of capitulation in the market. “Yes, the sentiment surveys are all negative, but actual flows have not been. This seems consistent with the lack of volatility in the market (as illustrated by the muted VIX),” he wrote.

Schwab Asset Management CEO and CIO Omar Aguilar, appearing on the same CNBC program, cited major market and economic uncertainty.

“We’re back to June,” in terms of technicals, forward earnings multiples, and the overall structure of the equity market, he said. “The biggest difference is that we have over 17 global central banks that have actually raised rates just over the last week. What that means … is that everybody’s just rushing to try to get these monetary policies so tight that it’s making the outcomes to just be (very) uncertain.”

On the one hand Fed monetary policy takes a while to get into the real economy, “and the biggest challenge today is for investors to try to understand how much of these lagging components will be reflected into earnings going forward,” Aguilar said.

Everyone knows earnings estimates need to be adjusted, “but at the same time they’re trying to realize whether or not the economy’s strong enough to provide that support,” he added.

“The range of outcomes that we can have from here on is as uncertain as it was back in June,” he said. “We can actually have a very clear support with the labor market, the housing market staying not too bad. On the other hand we can actually see those effects of the economy to just take us to a lower level.”