Le CAC 40, indice phare de la place de Paris, a perdu près de 7 % en trois mois, date du début de l

A deadly summer in the markets: the scenario haunting investors

Should we expect a deadly summer in the markets? This week of decline bodes ill for many investors. The consecutive crashes since last fall (vague term generally denoting a 10% drop in asset prices) in tech or growth stocks, in alternative assets like cryptocurrencies, but also in the bond market, so far have had an almost reassuring explanation: They had theirs Originating in the sudden change in monetary policy in the face of inflation and ultimately part of a sort of normalization, a fair return to “normal” after the 2021 extravagance.

Strong growth (7% last year in France) and zero interest rates, ie butter and butter money, couldn’t last forever. The end of free money would bring investors back to their senses and valuations back to historical averages if not attractive entry points. Some market strategists even came up with the idea that inflation is a supportive factor for stocks. Good first-quarter results from companies and the absence of a downward revision of earnings growth forecasts confirmed this cautious optimism.

consciousness

That was before the war in Ukraine broke out. This was particularly the case prior to last Wednesday’s stock market slaughter on Wall Street. The release of poor activity numbers for two major retailers, Walmart and Target, in the United States caused American indices, including “value” stocks, to fall sharply, reminding markets that inflation could weigh on consumption and corporate profitability . As a result, fears of a recession have never been higher since 2008, according to Bank of America.

“We’re seeing a real realization that inflation isn’t good for stocks because the pattern is always the same, after inflation comes recession. Markets are now clearly anticipating a recession. In fact, in the United States, we’re already in a recession, with a negative first quarter and a second quarter that doesn’t look any better. We’ve been in a bit of a denial so far as the turn signals have been on red for months.” warns Eric Galiègue, President of Valquant Expertyse.

From there, the darkest scenarios in the United States began to thrive. Scott Minerd, Guggenheim’s head of investments, warns on CNBC that the Nasdaq could slip 75% from its fall 2021 peak and the S&P 500 could slip 45%, still off its peak. Eric Galiègue is hardly more optimistic: “The market decline that started on February 24 could take us towards 5700/5800 points on the CAC 40, with technical recoveries of course, but more likely towards 4400 points in early 2023.”

An aggressive Fed

The configuration of the markets connects both problems in the real sphere and in the financial sphere. Under wage pressure, rising raw material and intermediate service prices, but also in the medium and long term a “deglobalization” of the world, companies will structurally not be able to maintain the stratospheric level of their net margins.

It’s not so much the stocks that will fall as the value of the companies themselves. The downward slide in earnings will hurt US stocks all the more as a third of EPS (earnings per share) growth in the United States from share buyback programs is being canceled results. Less profit, less share buybacks.

In finance, the picture is no more reassuring. The Federal Reserve (Fed) has made it clear that it intends to keep raising interest rates, even if it risks ruining stock and bond markets. And the European Central Bank (ECB) could follow sooner than expected. Up until now, since the 2000s, markets have operated under the belief that the Fed will do whatever it takes to bail out the markets. The Fed’s put (option to sell) clearly expired today.

For Fed Chair Jerome Powell, restoring price stability has become the top priority. The market expects another 50 basis point hike in interest rates next June, while US inflation topped 8% in April. The only hope: that the recession will cause the Fed to slow its pace of rate hikes and balance sheet reductions. In the meantime, there is a risk of damage to the markets.

Orderly decline

Behind this rather gloomy picture lies a positive note. The decline in the markets seems to be proceeding in an orderly manner. There is clearly no panic movement, no general “sell off”. It’s a tactical retreat, looking for cash. Fund manager liquidity is at its highest since September 2001, according to a recent Bank of America survey.

“The consensus has become very pessimistic leading to bouts of redemption on simply less alarming news”frets Jean-Jacques Friedman, CIO at Vega Investments Managers. “Finally the Nasdaq has normalized in terms of valuation multiples and in Europe we are at 12x multiples with prices still remaining relatively low.”he adds.

This cash can thus fuel technical recoveries in the event of what are deemed excessive market declines. Especially since investors in the bond markets, which have also fallen sharply since the beginning of the year, are still extremely cautious. Only government bonds rallied in a “flight to quality” move. This somewhat limits the rise in long-term interest rates.

However, this lack of “market capitulation” – while it may appear so midweek – should encourage the Fed to tighten further while markets still hope for more dovish speech.

Meanwhile, US indices are close to reaching true bear market levels, commonly defined as a 20% pullback from the last peak. The Nasdaq has largely crossed that threshold (-30% vs. November) and the S&P 500 has just touched it. In Paris, the decline is less severe: the CAC 40 is down 15% from its peak last January.