From the looming threat of a global trade war to the increased likelihood of Federal Reserve interest rate hikes, this week has furrowed a number of brows on Wall Street.
The past three days have seen the S&P 500 fall 4.64% from peak to trough, a two-standard deviation decline. That has only happened 2.5% of the time since 1928, according to a note Friday, March 2, from Fundstrat. "Over the past week, concerns about Fed hikes (Jerome Powell testimony) and concerns about trade wars (steel tariffs is the latest, but advocacy of weak USD previously) suggest the 'honeymoon' for Fed and the White House has ended," analysts wrote.
These developments represent another deviation in the 2018 stock market from the steadier 2017 market. The changes came following different inflation outlooks and interest rate expectations this year compared to last.
"Still, we view a three-day decline in stocks of 3.7% as an overreaction, particularly given the muted reaction seen in cross-markets," Fundstrat said.
"We are buyers of this pullback," analysts said. The equity environment is more challenging than 2017 and has harbored increased skepticism toward Washington, central banks and inflation concerns. "However, we view these as healthy transitions and supportive of earnings growth (which is driven by nominal GDP, as much as real growth). Moreover, we think bonds are less attractive in this environment, meaning equities outperform," Fundstrat wrote.
So how can investors play this overreaction?
Stick with stocks with low exposure to a trade war, Fundstrat said. Those are stocks with low exports as a percentage of sales and low international sourcing as a percentage of cost of goods sold.
The 10 industries with the lowest combined exposure per Fundstrat's measure are precious metals, homebuilding, construction materials, oil gas storage and transportation, forest product, diversified support and services, coals, steel, oil refining and marketing and commercial printing.
Source: Bloomberg Pro Terminal
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