Market Forecast For the Week of April 17, 2023: Dwindling Bulls Compete To Lay The Last Card Atop The House

FORECAST: The S&P 500 rises to 4200 and hits a wall of resistance as investors begin debating the fundamental notion driving this bear market rally, namely whether the Fed will not only pivot to lowering rates but is done with QT as well. With some Fed members floating dissenting voices investors are primed to take on resistance levels, but this will prove short-lived as earnings data drips out over the next few weeks and lays waste to the bull’s case, sending the index back to its October lows as Spring unfolds.

Investors have looked past declining earnings quality over the past two quarters and focused instead on cues from the bond market. The falling yield curve has convinced the bulls that the Fed can’t keep rates higher for longer, despite near-unanimous Fedspeak. But now bonds are signaling an even more bullish scenario via a bear flattening of the yield curve, where short rates fall but long rates rise, implying that QT is done and the Fed will soon pivot on overnight rates. The bulls are betting the Fed allows banks to continue borrowing at the various Fed windows in order to forestall a hard landing, which keeps liquidity flowing through to hard-up regional and small banks, negating the autopilot mechanics of QT. In the absence of loan demand this liquidity ends up in assets ranging from stocks to crypto to gold, a powerful if short-term bullish scenario.

The only thing missing is robust earnings, as estimates have relentlessly declined and sent valuations soaring, begging the question who wants to buy equities at these levels and risk being the last buyer? If earnings quality comes in poor yet again then the estimate re-rating will accelerate and that will mean that yet higher valuations based on both 2023, 2024 and 2025 earnings. Even at current estimates the S&P sports a PE of 19 this year and holding at 18 through 2025, assuming strong growth in 2024 and premium growth in 2025 relative to nominal GDP. The only way such valuations make sense is if rates decline while earnings grow, despite deglobalization, labor market tightness and high government debt loads. An exquisite house of cards is no foundation and investors will soon bail on these forecasts while the Fed holds true to its inflation-fighting mantra.

My current positions include a very large cash position, 3M (MMM), Pfizer (PFE), the levered ETF UPRO and inverse levered ETF SPXU, all of which net out to a modestly long position in large-cap equities.