Look for stocks that are down 30% from here, says strategist David Rosenberg. And don’t even think about going bullish until 2024.

By Jonathan Burton

“Right now, there’s nothing in my collection of metrics that tells me we’re anywhere close to bottoming out.” He suggests owning bonds, gold, consumer staples and the Dogs of the Dow.

David Rosenberg, former North American chief economist at Merrill Lynch, has been saying for almost a year that the Fed means business and investors should take the Federal Reserve’s efforts to fight inflation both seriously and literally

Rosenberg, now president of Toronto-based Rosenberg Research & Associates Inc., expects investors to face more troubles in the financial markets in the coming months.

“The recession is just beginning,” Rosenberg said in an interview with MarketWatch. “The market usually bottoms in the sixth or seventh inning of the recession, deep in the Fed’s easing cycle.” Series of rate hikes first pauses and then begins to cut.

Luckily for investors, the Fed will pause and maybe even cut in 2023, Rosenberg predicts. Unfortunately, he added, the S&P 500 could fall 30% from its current level before then. Rosenberg said, “Then that leaves the S&P 500 bottoming somewhere near 2,900.”

At that point, Rosenberg added, stocks would start looking attractive again. But that’s a story for 2024.

In this recent interview, edited for length and clarity, Rosenberg offered investors a playbook to follow this year and prepare for a more bullish 2024 should they make their own pivot into defensive sectors of the financial markets — including bonds , gold and dividend stocks.

MarketWatch: So many people out there are expecting a recession. But stocks have performed well to start the year. Have investors and Wall Street lost touch?

Rosenberg: Investor sentiment has gotten out of hand; The household sector is still hugely overweight in equities. There is a disconnect between how investors feel about the prospect and how they actually position themselves. You feel bearish but are still bullishly positioned, and that’s a classic case of cognitive dissonance. We also have a situation where there is a lot of talk about recession and that this is the most anticipated recession of all time, and yet the analyst community still expects positive corporate earnings growth in 2023.

In a simple recession, earnings fall 20%. We’ve never had a recession where earnings have grown at all. The consensus is that corporate earnings will increase in 2023. So there is another glaring anomaly. We’re being told that this is a widely expected recession, and yet it’s not reflected in earnings estimates — at least not yet.

Right now there’s nothing in my collection of metrics that tells me we’re nearing a bottom. 2022 was the year the Fed aggressively tightened policy, reflected in the market as the price-earnings multiple compressed from around 22 to around 17. The story in 2022 revolved around what the rate hikes did to the market multiple; 2023 will be about what these rate hikes do to corporate profits.

If you’re trying to be sensible and try to find a reasonable multiple for this market given where the risk free rate is now and we can generously assume a price to earnings multiple of around 15. Then you slap that onto a recessionary earnings environment and the S&P 500 has bottomed somewhere near 2900.

The closer we get to that, the more I will recommend equity market allocations. If I said 3200 before, there is a reasonable result that can lead you to anything below 3000. At 3200, to tell the truth, I would plan to be a bit more positive.

This is pure math. All the stock market does at any point in time is earnings multiplied by the multiple you wish to apply to that earnings stream. This multiple is interest rate sensitive. All we’ve seen is Act I – multiple compression. We have yet to see the market multiple fall below the long-term mean, which is closer to 16. You have never seen a bear market bottom with a multiple above the long-term average. That just doesn’t happen.

MarketWatch: The market wants a ‘Powell put’ to save stocks but may have to settle for a ‘Powell pause’. When the Fed finally halts rate hikes, is that a signal to turn bullish?

Rosenberg: The stock market is 70% of the way into a recession and 70% of the way into the easing cycle. More importantly, the Fed pauses and then turns around. This will be a 2023 story.

The Fed will change its views as circumstances change. The S&P 500 bottom will be south of 3000 and then it’s a matter of time. The Fed will pause, the markets will have a knee-jerk positive reaction for you to trade. Then the Fed starts cutting rates, and that usually happens six months after the pause. Then there is a lot of dizziness in the market for a short time. When the market bottoms, it is the mirror image of when it tops. The market peaks when it begins to see the recession coming. The next bull market will begin once investors start seeing the recovery.

But the recession is just beginning. The market typically hits lows in the sixth or seventh inning of the recession, deep in the Fed’s easing cycle, when the central bank has cut interest rates enough to push the yield curve back onto a positive slope. That’s many months away. We have to wait for the pause, pivot and rate cuts to steepen the yield curve. This will be a late 2023, early 2024 story.

MarketWatch: How concerned are you about corporate and household debt? Are there echoes of the Great Recession of 2008/09?

Rosenberg: There will be no repeat of 2008/09. That doesn’t mean there won’t be a major financial spasm. This always happens after a Fed tightening cycle. The excesses are revealed and erased. I look at it more as it could be a repeat of what happened in the 1980s, early 1990s with non-bank financial stocks engulfing the savings and lending industry. I worry about the banks in the sense that they have a huge exposure to commercial real estate on their balance sheets. I do think that banks will be forced to build up their loan loss reserves and that will follow from their earnings performance. It’s not the same as capitalization issues, so I don’t see any big banks going bad or at risk of default.

But I worry about other areas of the financial sector. In fact, banks are less important to the overall credit market than they have been in the past. This isn’t a repeat of 2008/09, but we need to focus on where the extreme leverage is concentrated.

Read: The stock market wishes and hopes the Fed will pivot — but the pain won’t end until investors panic

It’s not necessarily in the banks this time; it is in other sources such as private equity, private debt, and they have yet to fully mark-to-market their assets. This is an area of ​​concern. In the direct-to-consumer parts of the market, like credit cards, we’re already seeing signs of stress related to the increase in 30-day late payment rates. Early-stage arrears appear in credit cards, auto loans, and even some elements of the mortgage market. For me, the big risk isn’t so much the banks, but the non-banks that serve credit cards, auto loans, and private equity and private debt.

MarketWatch: Why should individuals be concerned about private equity and private debt? This is for the rich and the big institutions.

Rosenberg: If private investment firms don’t freeze their assets, you’re going to end up with a spate of redemptions and asset sales, and that affects all markets. Markets are intertwined. Redemptions and forced sales of assets generally affect market valuations. We are seeing deflation in the stock market and now in a much more important retail market which is residential real estate. One of the reasons so many people have been delaying their return to the job market is that they have been looking at their wealth, mostly stocks and real estate, and thinking they may prematurely move in because of this massive wealth accumulation that took place through 2020 and 2021 Retire.

Now people need to recalculate their ability to retire early and fund a comfortable retirement lifestyle. They are pushed back into the labor market. And, of course, the problem with a recession is that there will be fewer job openings, which means the unemployment rate will go up. The Fed is already telling us we’re going to 4.6%, which is itself a recession; we’re going to blow through that number. All of this is not necessarily playing out in the labor market through job losses, but it will force people to go back and look for a job. The unemployment rate is rising – this has a lag in nominal wages and will be another factor that will constrain consumer spending, which accounts for 70% of the economy.

At some point we will have to experience some kind of positive shock that halts the decline. The cycle is the cycle, and what dominates the cycle is interest rates. Eventually, we will get recessionary pressures, inflation will melt, the Fed will have successfully restored assets to more normal levels, and we will be in a different monetary policy cycle through the second half of 2024 that will breathe life into the economy and us are in a recovery phase that the market will be pricing in later in 2023. Nothing here is permanent. It’s about interest rates, liquidity and the yield curve that played out before.

MarketWatch: Where is your advice for investors to put their money now and why?

(FOLLOWING) Dow Jones Newswires

02-11-23 0912ET

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