While Federal Reserve (The Fed) rhetoric has caused a lot of investor angst around stock valuations, a growing cohort is gearing up for an extended rebound.
Contrarians expect an imminent return to positive sentiment to give the green light to 'buying on the dips'.
During the wee hours of Thursday morning, US investors expect the Fed to raise rates 0.75%, making it the largest since 1994.
With the rate rise all but priced in, many investors see improved performance by indices in the US as a precursor to a market rebound.
Then there are those who fear falling stock valuations – based on weaker earnings projections - only signal that US markets are yet to drop the other shoe.
Somewhere in between probably lies the truth.
Believe it or not, even with the S&P 500 down -22% in 2022, data provided by FactSet, suggests it remains above the 15-year average of 15.7.
Historians will note that during the Fed previous cycle of rate hikes, at its lowest, the S&P 500’ was trading on a multiple of 13.8.
Can valuations go lower?
Much of this depends on the degree to which higher interest rates by the Fed reduce the value of companies’ future cash flows, and on this front – only time will tell.
Closer to home, Shane Oliver chief economist with AMP reminds investors that the RBA won’t need to take similar extremes as its US counterpart to take pressure off inflation and keep inflation expectations down.
There are three overarching reasons:
RBA just wants to slow things down to take pressure off inflation and give time for supply to catch up.
RBA is already getting traction, with consumer confidence having already fallen sharply and is well below where it’s been at the start of past RBA rate hiking cycles.
While the household debt situation is not as perilous as some would have it, if the cash rate rose to 2.5% compared to what they were paying back in March, the hit to the household budget would be huge.
“Regardless of the precise drivers, the bottom line is that RBA monetary tightening appears to be getting traction earlier than would normally occur in an interest rate tightening cycle,” Oliver noted.
“We expect that while the RBA will raise the cash rate to 1.5% to 2% by year end, the peak in the cash rate will come at around 2% to 2.5% by mid next year. This is well below money market expectations for a rise above 4%.
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