Three months ago, there was a huge disagreement between the two most famous investment banks on Wall Street, Damo and Goldman Sachs.
In mid-November, Morgan Stanley released a relatively pessimistic 2022 U.S. stock outlook report, predicting that the S&P 500 will close at 4400 next year, about 6% below the level at the time. Goldman Sachs was much more optimistic, and in the report at the time, they predicted that by the end of 2022, the S&P 500 index would rise 9% to 5100 points.
Three months have passed, and the trend in Goldman Sachs' forecast has not occurred. Conversely, as the "rate hike frenzy" was expected to intensify and real interest rates began to rise, a large number of growth stocks began to pull back, and then the haze spread to value stocks, pulling down the performance of the entire S&P 500 index.
Finally, Goldman Sachs finally "capitulated" last week, lowering the S&P 500-year-end forecast and warning for the first time that the Fed's aggressive tightening policies could lead to a hard landing for the economy. Wall Street news mentioned that last week, Goldman Sachs lowered its year-end forecast for S&P from 5100 to 4900, but remained optimistic about the future of US stocks.
Now it's Morgan Stanley's turn to make a point. In a report released on Sunday, Seth Carpenter, chief U.S. economist at Morgan Stanley, summed up the current macroeconomic environment: Inflation is rising and risk is rising. At the same time, Carpenter warned:
"The amount of interest rate hikes needed to curb inflation could lead to economic stagnation."
Inflation is rising and risk is rising
Over the past six months, Damo and many central banks have continued to raise their inflation forecasts. As inflation continues to rise, markets are gradually digesting expectations of more frequent and rapid rate hikes by central banks in major developed countries.
However, with the recent surge in expectations of aggressive rate hikes, markets and economies need to ponder this question:
How much is "too much"?
(1) Damo team: expectations for the tightening path of monetary policy of major developed central banks
Let's look at the United States first.
Last week, the U.S. CPI shocked the market, with the January CPI rising 7.5% year-on-year to continue brushing a 40-year high, a four-month year-on-year increase of more than 6%, and the core CPI rose by 6% year-on-year, which also hit the largest increase since August 1982.
The surge in CPI has been accompanied by a surge in aggressive rate hikes, with Wall Street sources mentioning that the probability of the Fed's expectation of a 50 basis point rate hike in March has risen sharply to 55% from less than 30% two days ago, and then to nearly 100%, and the probability of seven rate hikes this year has risen to 61%. It is worth mentioning that the WHITE House expects inflation to fall by the end of 2022.
However, the U.S. team expects the Fed's tightening path this year not to be particularly aggressive. The team expects the Fed to raise interest rates four times in 2022, 25 basis points each, and begin quantitative tightening (QT) around the middle of the year. The rationale is that while it is attractive to tighten policy early in the face of upward inflation risks, most of the Fed minutes so far have deviated from the move, echoing Powell's cautious tone at his last press conference.
Wall Street anecdotes mentioned,
Look at the UK.
So far, the Bank of England has raised interest rates twice and launched QT, but the market is still expecting more, expecting rate hikes of about 85 basis points over the next 12 months. However, Carpenter's team believes that the rate hike may not be as large. Here's why: Most of the UK's "hyperinflation" is in core commodities, and if supply chains are normalized as the Damo Index suggests, inflation in the UK should be lower than market expectations later this year.
However, the Carpenter team also added that uncertainty around inflation has biased risk toward more rate hikes than less, and market expectations are likely to continue to be correct:
"Of course, we may be wrong, and the market may continue to be right."
Finally, looking at Europe, the ECB is the last central bank in the developed world to implement hawkish policies.
Last week, Damo's European economic team predicted that the ECB would end quantitative easing in September and raise interest rates from December, allowing deposit rates to rise to zero in the first quarter of 2023.
Here's why: The persistence of inflation is one of the drivers, and a sustained upward trend in inflation is likely to tighten harder. However, for the ECB, there is another important factor: the profitability of European commercial banks has been severely affected by the impact of negative interest rate policies in the euro area. At the same time, the team of Damo analyst Carpenter believes that this policy is also politically unpopular, adding that European interest rates may reach zero faster than we expected. At the same time, the team concluded:
"In any case, as uncertainty subsides, we expect the ECB to suspend interest rates at zero. If our forecasts for commodity inflation prove correct, and if oil and gas prices stabilize, then eurozone "zero interest rates" could persist for some time in 2023. ”
(2) The risk of economic stagnation has intensified
The team of Carpenter, an analyst at Damo, believes that it is difficult to say that the risk has stopped rising. Before long, we may have to face the risks that the Carpenter team warned about two weeks ago:
"The amount of rate hikes needed to reduce inflation will soon be close to the amount of rate hikes that could lead to economic stagnation."
This article is from Wall Street Insights, welcome to download the APP to see more