With the S&P 500 rebounding 27% from its low on October 27 last year and its market value soaring by $9 trillion, even the most optimistic investors may have to start preparing for a "healthy" correction. Dubravko Lakos-Bujas, chief global equity strategist at JPMorgan Chase, warned clients this week that the five-month rally in U.S. stocks may be coming to an end. He also advised investors to consider diversifying their holdings and pay attention to risk management in their portfolios. Coincidentally, James Ashley, head of international market strategy at Goldman Sachs Asset Management, also said: "We do tend to think that the current valuation of the U.S. stock market is reasonable, but these valuations have limited room for growth. Better opportunities may be in other markets." According to Dow Jones Market Data, in the past five years, the S&P 500 has experienced 21 declines of 5% or more and 5 corrections of 10% or more. So far this year, both of the above "subjects" are zero. Strong U.S. economic and corporate earnings, expectations for interest rate cuts, and the craze for artificial intelligence have driven U.S. stocks to continue to rise this year. In the first quarter of this year, the S&P 500 index rose by 10.2%, the strongest start since 2019. During the same period, the Dow Jones and S&P 500 rose by 5.6% and 9.1%, respectively. Bank of America's latest global fund manager survey showed that stock allocations are at a two-year high, and the "risk appetite" indicator has also reached its highest level since November 2021. Concerns vs. pursuit Lakos-Bujas believes that factors that are considered to be positive for the market, including corporate earnings, expectations of interest rate cuts by the Federal Reserve, and even the possibility that former U.S. President Trump may win the election, have been reflected in stock price performance. On the other hand, apart from the prospects of Nvidia and artificial intelligence innovation, the surprises that drive the stock market up are becoming increasingly limited. "(A pullback) may suddenly appear one day, just as we have experienced flash crashes. "A fund first reduced its leverage, a second fund repositioned its holdings after hearing the news, and a third fund was basically caught off guard," Lakos-Bujas said in an online conference. Everyone can guess what happened next - more and more drastic weakening of momentum. Yves Bonzon, chief investment officer of Swiss private wealth management company Julius Baer, said he has wavered in continuing to increase his stock positions due to the herd effect, seasonal slump in stock demand in the summer and uncertainty about the upcoming US presidential election."From now until November, the U.S. stock market will enter a consolidation phase, with the potential for a 10%-15% correction at any time, and I believe this is healthy," said Bang Zong, adding, "By definition, shocks are unforeseeable. However, since the outbreak of the pandemic in 2020, the market may be more susceptible to external shocks than at any other time in the past."
In the first quarter of this year, several institutions, including Goldman Sachs, Bank of America, and Royal Bank of Canada, have raised their target pricing for the S&P 500 index.
Historical data also seems to be on the bright side for U.S. stocks. According to an analysis by Dow Jones Market Data, since 1950, when the S&P 500 index has closed up 8% or more in the first quarter, the probability of the stock index rising for the rest of the year is 94%, with an average cumulative increase of 9.7% over the remaining three quarters.
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The three major drivers of the pullback
The research team led by Michael Kantrowitz, Chief Investment Strategist at PiperSandler, has found that since 1964, there have been 27 pullbacks of 10% or more in the S&P 500 index, and the three major drivers of the U.S. stock market pullback are the rise in bond yields, the increase in unemployment rates, or the emergence of some global exogenous shock.
"We believe that the biggest risk facing the U.S. stock market in 2024 will be rising interest rates," Kantrowitz and his team predicted in their report.
In fact, the last pullback in U.S. stocks was triggered by this. From August to October last year, as U.S. Treasury yields rose, the 10-year U.S. Treasury yield once touched above 5%, reaching a 16-year high, leading to three consecutive months of selling in the U.S. stock market.
Data shows that over the past two years, based on a 26-week rolling basis, the sensitivity of U.S. stocks to rising bond yields has approached the historical highest level at the end of the last century during the internet bubble period. This indicates that although the stock market has not been affected by the rebound in yields since the beginning of this year, if long-term bond yields continue to rise, it may put pressure on U.S. stocks.
As investors readjust their rate cut forecasts, the benchmark 10-year U.S. Treasury yield has risen from 3.860% at the end of last year to 4.192%. However, so far, optimistic expectations for U.S. economic growth and corporate earnings still support U.S. stocks.
Lacos-Buhas reiterated that the excellent gains of individual stocks and excessive crowding may increase the risk of a pullback.Although Tesla and Apple's significant pullbacks have dimmed the luster of the "Seven Titans," NVIDIA and AI-related stocks it represents have quickly filled the gap, continuing to drive the trend of the U.S. stock market. In the first quarter of this year, NVIDIA's stock price soared by 82%. During the same period, Micron Technology, Applied Materials, and AMD all saw increases of more than 20%.
"Historically, whenever there is such a crowded situation at such a high level of congestion, the momentum of the rise faces a huge risk, it's just a matter of time," Lacoste-Buhas cited as an example, comparing the stunning performance of Tesla and Apple last year, the two stocks have fallen by 30% and 11% respectively this year.
"Who will be next? When?" he said.