Time To Deploy Some Cash
What we have observed in equity markets since the Liberation Day tariff announcements is a crash. Sure, you can use a different adjective if you want, but at the lows reached intra-day on Monday, the S&P 500 plunged roughly 15% from where it traded last Wednesday. In my book, that’s a crash. This week’s missive isn’t going to be about dissecting the rights or wrongs of tariffs – they are what they are, and no matter what I think, it won't change this administration’s view on them. It is best for all investors to focus more on their capital and how to navigate the quickly changing landscape than to philosophically ponder what could have been or what will be. This week’s note is going to be focused on markets, how we’re thinking about them, and what we’re doing.
Over the course of Thursday and Friday, the S&P 500 cratered nearly 11% - this is only the fourth time since 1955 that it has lost more than -10 % in two days. Those previous occasions were very close to marking washout moments over the near term. Many of the indicators we track are signaling that we are reaching or may have reached a capitulation point this morning.
VIX closed Friday at a super-elevated 45 and pierced above 60 this morning – marking a 3-standard deviation event.
JP Morgan became the first Wall St. bank to make a recession its base case call for the second half of 2025 (most other big banks are taking a hatchet to their GPD forecasts as well).
Oil prices have crashed by almost 18% in the last three trading days to below $60 a barrel this morning.
Fed Fund futures have repriced for five rate cuts this year - irrespective of the confidence Jay Powell tried to instill during his interview on Friday.
CDS spreads (a measure of default risk) have widened out nearly 80 basis points to their highest levels since March 2023.
The Nasdaq, Russell 2000, and Dow Transports are all down more than 25% from their respective peaks and have rarely been more oversold than they are today.
Additionally, investor sentiment has been crushed no matter what metric you look at. The bear camp in the AAII survey has reached an epic 62% - only two other times in the history of this 38-year-old poll has bearishness been so extreme (October 1990 and March 2009). The CNN Fear and Greed Index has plunged into single digits (4), which is not only rare but indicates investors have become overwhelmed with fear. It speaks volumes about how quickly fear and greed can spread in today’s information age, where investors are more negative now than at the peak of anxiety during the bursting of the Tech bubble, 9/11, and the COVID-19 pandemic.
I mentioned the VIX above and examined the history of a VIX close above 40 to understand what it reveals about future equity market returns when it reaches such extremes. In the twelve months following such an occurrence, the S&P 500 was higher 96% of the time and by more than 30% on both a median and mean basis. Keep in mind this tells you nothing about the next week, month, or even quarter, but it is insightful for those with a time horizon that extends beyond their nose that such extreme blowouts in the VIX have historically marked a pretty dire outcome being priced into equities. Now, I want to be crystal clear in pointing out that this is by no means a market bottom-call, but for those willing to put a little stock in history as a guide, then you’re looking at a reasonably solid entry point to put some capital work with a 12-month horizon.
While I'm pointing out that the crash in risk assets, paired with extreme readings in sentiment and positioning, suggests this is a good time to put some capital to work, I’m not saying it's all clear or that investors should jump in with both feet. What corporate earnings are going to look like over the next 6-12 months remains a wild card with little visibility for C-suite executives and analysts. Not to mention, high yield spreads have widened +180 basis points in the past six weeks to nearly 430 basis points. They are at their widest level since November 2023, and the S&P 500 was trading around 4,500 at that time.
Without question, the stock market looks terrible, with the S&P 500 trading down to 4,835 in this morning's whoosh – the same level it first reached back in February 2024. And no one can offer any reassurances that things won’t get worse before they get better. However, anyone who was proactively prepared to take advantage of a volatile and perplexing 2025 setup should be stepping up to the plate and taking a couple of hacks at current opportunities.
One of the factors that makes me hesitant about being overly aggressive in risk assets at this juncture is the Fed. On Friday, Chairman Powell squashed any notion that the Fed would be preemptive with monetary policy and ride in to rescue. Despite the Atlanta Fed GDP now forecasting growth to contract in Q1 or a slew of Wall St. research shops cutting GDP growth estimates, Powell stayed resolute in his messaging that the economy is in solid shape. Friday’s jobs report supported such a view, but I would argue that a lot has changed since mid-March. Instead, the Fed Chair made it clear that he is as concerned about the potential for persistent inflationary pressures as he is about growth. I suppose on this point, I agree with President Trump – that the Fed will be late to the game in providing support to an economy and financial markets that I believe desperately need it.
Therefore, investors must recognize that support from either fiscal or monetary policy will not be delivered in an anticipatory manner but rather in response to circumstances that warrant it. We have a Fed waiting for weak survey data to morph into weak hard data (not happening broadly enough yet), and we have a fiscal policy that is busy hammering out a deal in Congress just to avoid falling off a cliff at the end of the year, as well as preventing a debt-ceiling fiasco next month. All the while, deregulation has gone silent, and the DOGE efforts to clear the government of wasteful spending, while laudable in many respects, have only added more clouds to the economic backdrop.
Another variable that restrains me from getting too excited about backing up the truck on equities even after a 20% slide in the S&P 500 is that valuations are still relatively rich at a 19x forward P/E multiple (5,100 / 270 EPS = 19x). Yes, it's down three points since February, but a typical trough during a recession (if we were to experience one) is closer to 16x. And then you have to account for the hit to earnings if the economy were to contract – so that $270 EPS estimate needs to come down by 15%. You do the math yourself because I don’t want to make anyone hyperventilate with where that maps out.
What equities need at this juncture more than anything is a constructive catalyst. That’s typically what happens following VIX spikes, sentiment washouts, and capitulatory selling. It could be subtle or substantial, but something meaningful enough to shift bias from extreme pessimism to even just a modest shade of optimism. With the current trade war and this administration's interest in resetting a world order that has been evolving since the 1940s, a catalyst with lasting impact will be challenging. By all indications, investors shouldn’t hold out hope that the Trump administration will de-escalate on the tariff front, but perhaps U.S. trading partners will offer some olive branches in terms of concessions, which would give the President an off-ramp. Or possibly Congress takes matters into their own collective hands and manages to pass legislation that reclaims authority over international trade. Maybe it's wishful thinking, but you never know.
Let me wrap this up with some closing thoughts. For those investors who were disciplined and proactive with their capital entering this crash, now is the time to shift your mentality from defense to offense. Dry powder that has been on the sidelines and is earmarked for the equity market should start to get deployed. One indicator that has a very good track record of marking complete capitulation is when the share of the S&P 500 trading above the 200-day moving average slips below 20%. As of my last check, it was at 22%, which is close enough for this analyst, who doesn’t need to pick the precise low.
While my conviction is increasing that investors allocating capital to the broad equity market will be satisfied with their decision a year from now, I’m not yet at the point of advocating a drastic shift in asset allocations (rotating capital preservation assets into risk assets). According to our work, we would take that next step in starting to rotate allocations to a riskier make-up when/if the S&P 500 trades down to 4,600 – 4,300. You can bet that if we get down here, nobody will want to buy equities, and all you’ll hear about is the world coming to an end. However, I have little doubt that those brave enough and able to take advantage of such an opportunity will not regret doing so. Nobody can time the market to the day, week, or even month – what is more important is knowing your time horizon and understanding your ability to withstand further downside.
Good luck out there and remember that the worst thing you can do during these challenging times is panic.
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