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Equities, maintain a cautious view
Market Outlook

Equities, maintain a cautious view

After the rally, +9% for the S&P 500 over the month, we maintain a cautious view. Valuation at levels above 4,500 for the SPX is starting to look rather fair in the very short term.
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11 DEC, 2023

By Generali Investments


A more dovish stance by central banks, lower inflation and  further decrease in volatility triggered a rally in equities. Given its magnitude for the S&P 500, +9% over the month and +20% year-to-date, a cautious approach in the very short term would be appropriate. Previous episodes of declining inflation from very high peaks would suggest some cautiousness after nearly 15 months of huge equity outper formance vs bonds since mid-2022 (+25% total return differential). Furthermore, valuation at levels above 4,500 for the SPX is starting to look rather fair in the very short term, with only a small upside left. Lastly, economy softness over the next months plus a lower fiscal impulse in 2024 and the negative lagged effects of monetary policy could trigger spikes in volatility (which currently stays very low). 

That said, our conviction in future lower yields and possible anticipation of rate cuts in 2024 is gaining momentum, even in the last few days. The picture remains constructive based on other factors, too: the two wars (in Israel and Ukraine) probably not escalating, neutral investors’ positioning, IFO and Sentix showing a better momentum, positive US corporates’ net cash-flow momentum, the trend in US banks’ reserves balance with Fed and the US M2 impulse.

Finally, our machine-learning models (ML) for equity vs. bonds returns are neutral, thus not in a dangerous zone for equities. We updated our earnings forecasts for 2024 which are based on our macro projections. We remain below consensus by 4.5% in the US and 3% in the euro area (EA). 

For 2025, we cautiously continue to stay below analysts’ estimates by nearly 5%. For the US, the earnings growth bottom (year-on-year) should have already occurred in Q3 2023, albeit the recovery from now on should be slow. As for the EA, the trough in earnings could lag the US one by two quarters (Q1 2024). 

The net result is that in the case of ex-US indices, we see a TR of around 10% in 12 months and a more limited 5% for the US. For EMU in particular, we see the chance to have a higher PE (at 12.8x from 12x), which adds to a dividend yield of nearly 4%, a limited earnings growth of 5% and a buyback yield of 0.9%. That said, the target PE would remain below the historical average (14x, s. previous page). Regionally: OW EMU vs. US (peak US valuation premium and less divergent macro surprises), OW Japan (valuation, reforms), SMI (valuation), China (val., stimulus), India (val., eco) and Korea (val., eco). 

EMs: supported by improving investment sentiment 

EMs are likely to remain affected in the short term by global macro uncertainty and growth headwinds coming from both the US and China. But the risks appear to have diminished. Investment sentiment seems to have bottomed out and started to improve. China has continued to step up its easing measures (including bond issuance and liquidity injections) and we prefer to stay OW, albeit we see an L-shaped recovery and consequent elevated volatility. Additionally, we are OW on India (eco) and Korea (new), which started to look increasingly attractive (best country score, improving 2024 outlook). 

European sector allocation 

We maintain a balanced portfolio with a defensive tilt, suggesting a few tweaks to be positioned for lower yields. We move to neutral Comm. Prof. Svs. (from UW) and Food Retail (from OW). We tactically move Div. Fin. (yields sensitivity) and Semis to UW (earnings revisions). We marginally increase Media (still slightly UW) while decreasing Materials (earnings momentum). We upgrade Consumer Svs. and Telecom. Svs. to a small OW (earnings and valuation). OWs: Banks, Durables, Cons. Services (new), Energy, Food Bev. Tob., HC Equip. & Svs., Pharma, Telecom. Svs. (new), Utilities. UWs: Capital goods, Div. Fin. (new), Insurance, Materials, Media, Semiconductors (new), Real Estate. OW small vs Large cap EU. 

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