Stock Market At ‘Critical’ Level And Braced For ‘High Risk’ Of Collapse In March

Jonathan Ponciano

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Topline

After a slew of data showing the economy in a much more precarious position than previously believed, the stock market could be poised for another forceful plunge in March, according to Morgan Stanley’s investment chief, who notes that the last month of the quarter has been difficult for stocks over the year, as investors gear up for a fresh round of negative earnings reports.

The last month of the quarter has been difficult [+][-]

for stocks over the past year. Next month may be no different, Morgan Stanley warns.

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Key Facts

Though high inflation and Federal Reserve interest rate hikes have fueled much of the fears driving the ongoing stock weakness, the depth and length of most bear markets are determined by the trend in earnings projections, the Morgan Stanley team led by Michael Wilson told clients in a Monday note.

Over the past year, stocks have rallied as corporate earnings come out, but then plunged in the month leading up to new reports, which have consistently shown companies cutting profit expectations.

After surging more than 16% since October and then abruptly falling 3% last week, the S&P 500 is at a “critical” level, cautions Wilson, saying there’s a “high risk” the bear market could induce a forceful stock plunge in March (the last month of the quarter)—particularly since earnings are expected to take another hit once reports start trickling in.

“Ultimately, we think this rally is a bull trap,” he notes, positing the S&P "may have one last stand" but then could plunge as much as 13% more until earnings projections stop falling—which the analyst believes won’t happen for “several more months, if not quarters.”

The Fed’s “relentless” efforts to slow down the economy will “inevitably” hurt earnings and push stocks to a new multi-year low, says Principal Asset Management’s Seema Shah, who is telling investors to brace for increased volatility since it’s become increasingly clear this year that the Fed is not yet finished with its rate hikes.

Surprising Fact

After a "particularly tough" year for stocks and a Fed-induced global bond market selloff, yields on the ten-year Treasury are now more than twice the S&P’s estimated dividend yield—bad news for stocks but an opportunity for investors looking to lock in income with a less volatile asset, says Shah.

Tangent

Texas factory activity fell in February for the first time since May 2020, according to the Dallas Fed’s manufacturing survey released Monday. “February has been a slow month—it is hard to know why, but our outlook has worsened for both our business and retail activity in general,” one respondent said, while another posited, “We are not sure if it’s the Fed jacking with interest rates or some sort of cyclical slowdown, but it feels like business has ground to a halt.”

Key Background

After hitting a near two-year low in October, stocks rallied as signs that inflation was slowing started to abound, but this month has shown the journey to normal price levels may be much longer than many hope. On Friday, the Commerce Department reported the prices consumers paid for goods and services last month edged up 5.4% from a year ago—up from 5.3% one month prior despite expectations calling for a decline. Though it’s unclear when the Fed will stop raising rates, analysts at Goldman and Bank of America added another rate hike to their forecasts following another hotter-than-expected inflation reading earlier this month. They now expect the central bank will raise rates to a top level of 5.5%, potentially hitting the highest level in more than 20 years.

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