You’ve heard it before: things are different this time around. But when it comes to the US recession so many are anticipating in 2023, things really might be.
That’s according to Savita Subramanian, head of US equity and quantitative strategy at Bank of America, who discusses why the contours of any downturn this year might not resemble those of the past, and what it might mean for the stock market in 2023.
Q: What is your S&P 500 year-end price target and what are some other scenarios that could play out?
A: We think the market will close around 4,000, the S&P 500, which is really limited upside from here. But we think there’s a lot of moves within the year. So, let’s talk about a range: our bull case, like if everything goes right, we think the market could go as high as 4,600, which would be a pretty great year. And then our bear case and what we think is a reasonable floor for the market is 3,000, which would be quite a big drop from here. So, our views are in 2023, it might be a less-than-stellar year for the market index, but we think there are going to be a lot of great opportunities within the S&P 500, and that’s where we’re really focused with our views — is what sectors, what themes, what areas within the S&P 500 can actually do pretty well this year amid a backdrop of relatively muted returns for the overall market.
Q: Pretty much everyone assumes earnings estimates from the analysts right now are wrong. What do you think explains that? Are analysts just waiting for the companies themselves to lower guidance?
A: Analysts are in wait-and-see mode and maybe even companies are in wait-and-see mode because the real positive surprise over the last few years is that despite rampant inflation, cost pressure, wage pressure, everything going up to pretty high levels in terms of margin pressure, companies have managed to navigate this by either pricing products more aggressively or by cutting costs. On top of that, we’re seeing corporates very nimble in terms of cutting costs. A lot of the headlines recently have been around mega-cap tech companies reducing their compensation cost structure by layoffs — not necessarily great for the economy, but good for their bottom line. So, analysts and corporates are probably a little less convicted in terms of margins and cost pressure and pricing power going forward.
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Our view is that we are likely to see some downward revisions and our forecast for profits growth for 2023 is $200 for the S&P 500, and that would mean about a 10% decline in earnings peak to trough. Now that makes sense to us amid forecasts for a recession — this is one of the most widely telegraphed recessions of all time. A 10% drop in earnings would actually be half of the typical recessionary corporate earnings drop. So, we think that we are going to see those estimates come down, and it’s likely to happen after companies guide more aggressively lower around 2023 earnings. But where we’re going to see pressures are in companies with more labor intensity like services companies, companies where you’re really seeing cost pressure remain high. Those are the areas where we think that we’re going to see some downward guides on margins.
Q: And you say this is not your mom and dad’s recession — so how would you characterize it?
A: When we think about our parents and prior generations, recessions looked really different. Obviously, the depression was one of the most acute recessions we’ve ever seen. Even 2008, when you think about the drama that took place within corporate America, within consumers, homeowners, it was really broad-spread, it was driven by this massive credit cycle. And the good news is that today, corporates and consumers actually look pretty well-capitalized — at least for the time being. And maybe that’s just a function of really low interest rates. But what corporates learned in 2008 was that leverage is evil, and they have now locked in relatively long-dated fixed-rate obligations on the debt side. To me, the most encouraging number is if you compare today’s average maturity of debt on S&P balance sheets to that in 2008. Today, debt terms out at about, on average, 11 years. Back in ‘08, it was more like seven years.
So, we’ve seen this longer-duration exposure to fixed-rate debt, which is good news because that means that higher interest rates won’t hurt these companies overnight and they have time to navigate that process. Consumers got a big bolus of cash from the government in 2020, 2021. So, balance sheets of consumers and corporates look pretty great. The government is holding the bag when it comes to debt. So, if you look at deficits, if you look at Fed balance sheets, what’s different today is that the Fed has never had this type of an asset base. We’ve seen trillions of dollars of bond purchases occur over the last 10-plus years, which have been great for risk assets, but how does the Fed navigate unwinding all of that debt? I think that’s the US$1 trillion-question because we’ve never seen this movie before and that’s what we’re a little more worried about — the public sector than the private sector in this recession.
