Monthly Outlook 202302: Time to Deal With More Disappointments

Monthly Outlook 202302 Equity Research·Strategy Research·Monthly Outlook [Table_Main] Time to Deal With More Disappointments Report Abstract: ◼ The market is now expecting a more hawkish Fed. As maintained in our forecasts since November 2022, the rally in overseas markets surrounding expectations for the Fed’s rate cut is being repaired to the downside. Powell remains ambiguous, releasing dovish signals by stating that the federal funds rate may be kept under 5% in 2023, but the market has begun to digest the prospect of rates rising above 5.3%. The suppression of liquidity due to the Fed's QT is another source of concern. QT is still draining bank reserves instead of balances in the RRP market. The Fed has claimed that QT will potentially continue even when rate cuts begin, but the current level of bank reserve balances is already very close to the Fed’s target of reducing it to 10% of GDP. The market generally believes that a significant reduction in bank liquidity will force the Fed to end QT before the end of 2023, but we cannot rule out the possibility that the Fed will let reserves fall below the $2.5 trillion threshold. Risky assets will hence be negatively impacted as tapering continues for an indefinite duration and the cost of funds rises. ◼ Be ready for a pessimistic earnings season. The US job market data remains strong, but massive layoffs at giants such as Google, Amazon and Disney are causing increasing global impact and concern. Some economists believe that layoffs are unlikely to remain invisible for much longer. However, as economic data is still vague, it remains difficult for the Fed to decide whether it is the right timing to cut rates. Meanwhile, analysts have begun to downward adjust their earnings expectations for 2023 Q1. With both the economic recession and rising interest rates coming into play, it appears inevitable that both the earnings and valuation of US stocks could fall simultaneously in the quarter to come. ◼ At the corporate earnings level, 68% of S&P 500 companies have reported actual EPS above estimates for 2022 Q4 as of February 17, 2023, which is significantly lower than the past five-year average of 77% and ten-year average of 73%. Meanwhile, S&P 500 companies as a whole have made downward revisions to year-over-year earnings growth for 2022 Q4, which is -4.7% as of February 17 2023 compared to -3.3% at the end of 2022. ◼ Sectors with the largest downward revisions between the end of 2022 and February 17 2023 are financials, energy, and communication services. Judging from the level of price change since December 31 2022, the energy sector has more pronouncedly “priced in” the downward earnings revisions, while the financial and communication services sectors should still have space for downward adjustments. At the same time, we expect the health care and consumer staples sectors to rally in the short term due to their upward earnings adjustments. ◼ Risks: Downward adjustments to US stock earnings could hit stock prices further; Inflation could be stickier than expectation and the Fed may not cut rates in 2023, disappointing market expectations for monetary easing; Policy miscalculation by the Fed could worsen economic recession and hit both valuation and earnings to a larger extent. Research Analyst Shirui Ouyang (852) 3892 3120 ouyangshirui@dwzq.com.hk [Table_Report] Related reports 1. Embracing Risks and Opportunities 2022-04-11 2. The US Stock Market Has Not Fully Priced in Inflation Data and Interest Rate Hikes 2022-06-29 3. Fading Inflation and Growth: What Are the Signals Delivered by US Economic Indicators? 2022-07-20 4. Negative Interest Rate Era is Over, and Where is Europe Headed? 2022-08-09 5. Be Prepared for Further Aggressive Fed Rate Hikes 2022-09-16 6. Reduce risk exposure to European markets and beware of liquidity shortage in the US 2022-10-17 7. Reduce risk exposure to European markets and beware of liquidity shortage in the US 2022-11-28 8. Timing the Recession and the Fed's Pivot: Bullish and Bearish Views on the 2023 US Stock Market 2022-12-31 We would like to acknowledge the contribution and support provided by Hanruo Feng(冯涵若). [Table_Author] 1 March 2023 2 / 11 东吴证券（香港） 请务必阅读正文之后的免责声明部分 [Table_Yemei] Monthly Outlook Table of Contents 1. The Market is now expecting a more hawkish Fed......................................................................... 3 2. Be ready for a pessimistic earnings season ...................................................................................... 6 3. Risks Highlight ................................................................................................................................... 9 3 / 11 东吴证券（香港