Two big investment banks, UBS and JPMorgan, are on Monday asking themselves whether the current bear is “the big one” in terms of market corrections, or just a minor hiccup.
There’s a host of things that could be making markets nervous — the sovereign situation in Europe, financial reform for US banks, and expected monetary tightening in the US, UK and China.
Despite the jitters though, both UBS and JPM aren’t worried — just yet. Their strategy teams think this is a small correction along a recovery-driven rally that has much further to go.
Here’s what UBS’ (European) equity strategy team, led by Nick Nelson and Karen Olney, say:
We do not believe that this is the end of the bull market
Three disparate catalysts have triggered the current correction: Chinese monetary policy, US bank reforms and Greek fiscal concerns. Although risks have risen, we believe that each of these individual events will most likely turn out to be manageable and, in themselves, will not d.e-rail the global economic recovery.Equity market fundamentals are still intact…
Falling equity prices and rising earnings have left European equities as cheap as they have been since the July 2009 correction (12m forward P/E of 11.5x now versus 11.0x at the low of last summer). And this is on year 1 of recovery – longer-term measures, such as a Shiller P/E, suggest significant upside. European equities also look attractive relative to other European a.sset classes (2010E dividend yield of 4.0% versus a 3.2% 10-year German bond yield).…but big changes within the market
Cyclicals’ performance relative to defensives was rolling over before the current correction. We continue to favour a barbell approach at a sector level and would argue that we are past the sweet spot for cyclical outperformance, even with our forecast for a global economic recovery back to trend.
And JPM’s European strategists Mislav Matejka and Emmanuel Cau:
The last week’s trading is showing how rapidly the sentiment is changing and how fragile the investor confidence was to begin with. In Q4 the general desire was to add further to market exposure, but majority didn’t want to chase into the year end, deciding to wait for a pullback, for better entry levels. It is interesting that now that correction is unfolding, instead of looking at this as the long awaited opportunity to add into, the overall sentiment today is that it is better to wait, that there is too much uncertainty and too many moving parts to consider. However,if it weren’t for this poor news flow in the first place, the stocks wouldn’tbe trading at levels of last October again.
The question is whether what we are witnessing over the past fewdays is a game changer? Is “buying the dips” going to fail as a winning strategy this time?Acknowledging the potential for markets to create their own future outcomes, we point out the following:
In the background, the reporting season is so far delivering good results. Out of 197 S&P500 companies that reported to date, 77% have beaten on EPS line, with average beat of 16%. Perhaps more interestingly, while in Q2 ‘09 45% of non-financial companies beat on revenues, and in Q3 58%, in Q4 so far the proportion stands at 71%. For the majority of corporatesthat have reported, the analysts are having to raise their ‘10 estimates, which ultimately means that every percent the market falls, it becomes a percent cheaper.
Second, credit cycle is showing further signs of turning, as evidenced in the results of most banks. This is one of the key conditions for the sustainability of recovery.
Third,despite the latest few prints which were higher than expected, the 4-week run-rate of jobless claims is consistent with outright positive payrolls right now.
Fourth, while Greek debt situation remains precarious (不穩的;危險的), and the market is starting to entertain contagion risk, we note that in the case of Romania, Latvia and Hungary the announcement of a financial assistance program managed to stabilisemarkets relatively swiftly. The worst outcome for all parties concerned is the default, but JPM believes solvency is not the issue, rather the lack of credibility which can/will lead to liquidity risk, ultimately calling for outside assistance.
Fifth, The start of the Chinese policy tightening, while detrimental to the market sentiment and raising the potential for policy mistake, could ultimately be seen as a positive, as a sign that growth recovery appears robust enough to allow policymakers to refocus on asset bubble concerns.
Sixth, the recent turn in the currency trends, with some Euro weakness, should remove one of the headwinds for European exporters.
Lastly, while we are cognisant that the market can drive valuations to much lower levels than would be at first deemed reasonable, it is perhaps worth mentioning that stocks trade on 11.5x this year’s earnings, in addition to the EPS integer moving up.
We advise adding to positions on weakness and would revisit this view if jobless claims were to move back towards 500k, if Greek default becomes a reality or if manufacturing leading indicators roll over.
So, investment banks are advising clients not to worry.
Contrarian indicator or what?
Related links:
JPM equity strategy presentation – The Long Room
Teun’s tightening tactics – FT Alphaville
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