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September 26, 2022

US EPS cycle starting to wobble

After a period of relative stability, we are starting to see a deterioration in the EPS or profit cycle through the prism of estimate trail analysis

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US growth rate stability and downgrading in Asia Pacific and EM, however…

Chart 1 shows the status of regional consensus EPS growth forecasts for this year and next and the revisions (deltas) to the forecasts over the last month. The notable negative revisions have been in Asia Pacific and Emerging Markets. In terms of 2023 growth rate projections, the US is still predicted to deliver the highest growth rate among developed markets.

Chart 1: Regional consensus EPS growth forecasts

…Growth rates might be giving a false sense of security

Growth rate analysis does not provide insight into the status of the cycle as it simply measures the difference in EPS forecasts over two distinct time periods. If both periods see EPS decline by 10%, the growth rate remains the same. That is why EPS cycle analysis must be viewed via EPS trails that map the changes to calendar year forecasts over time. Chart 2 shows the EPS trails for the US and that after a period of stability both 2022 and 2023 EPS estimates have started to decline. The cycle seems to be deteriorating.

Chart 2: US consensus EPS trails - starting to wobble

Most sectors have seen negative EPS revisions over the last month

Chart 3 shows revisions to 2022 and 2023 EPS estimates versus the August market high for both the US and World ex US at a sector level. Energy remains the only sector to see positive revisions to 2022 and 2023 estimates for the US and World ex US.

Chart 3: A broad deterioration in sector EPS revisions

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September 26, 2022

Risk aversion being driven by tightening financial conditions

Markets have been gripped by risk aversion since mid-August

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Markets have been gripped by risk aversion since mid-August in response to hawkish Fed and global central bank guidance, elevated inflation, and a significant tightening in financial conditions.

Global interest rate forecasts continue to ratchet higher

Chart 1 shows the status of regional market interest rate forecasts for 2022 and 2023 as well as the respective central bank forecasts. It can be seen that except for Japan, all other regions have witnessed significant uplifts to interest rate curves over the last three months.

Chart 1: Regional consensus and central bank 2022 and 2023 interest rate forecasts

US interest rate forecasts have risen 100bp in the last month

Both the Fed dot plots and market interest forecasts have risen by 100 basis points. While the Fed forecasts point to a continued gradual increase in rates, peaking at 4.6% by the end of 2023, the market is predicting a gradual decline in rates over the course of the second half of next year.

Chart 2: US market consensus and Fed dot plot interest curves

US financial conditions are facing a perfect storm

Our Financial Conditions Indicator (FCI) is designed to reflect the impact on market risk appetite through the combined impact of related financial components. Since mid-August, the US FCI has increased and is in restrictive territory (a key driver of risk aversion). Some of the key elements pushing the FCI higher have been the rise in the USD (REER), interest rate forecasts, government and corporate bond yields and a contraction in real M2 money supply growth.

Chart 3: US financial conditions being driven higher on many fronts

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September 6, 2022

August was a month of two halves for FT Wilshire 5000 return delivery

Hawkish Fed guidance sends FT Wilshire 5000 into reverse gear in August

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August witnessed a significant reversal in risk appetite mid-month in response to a succession of hawkish Fed guidance. This bought an end to the +18.6% two-month rally that started on June 16 and peaked on Aug. 16. Since the mid-month peak, the FT Wilshire has declined -8.1%, producing a -3.8% move for the month of August.

Exhibit 1: August brought an end to the two-month rally  


August saw a rotation back to small cap and value stocks

The mid-August reversal also produced a rotation in style performance. The table below shows that most of the underperformance of large cap relative to small cap in August was attributable to the larger negative contributions from the financials, digital info and services, health care and technology sectors.

Exhibit 2: Four sector-weighted contributions account for small cap outperformance

Rising bond yields cause growth to lose momentum vs value

Rising bond yields impacted the highly valued long duration growth stocks in August and this resulted in the growth style (with its large exposure to the technology and digital information sectors) losing momentum relative to value as the month progressed.

Exhibit 3: Two sector weighted contributions account for growth underperformance

Still a way to go before the growth vs value trade reverts to 2016/17 levels

Exhibit 4 puts the growth vs value rotation into a longer perspective. Despite the scale of value outperformance so far this year, the relative trade still has a long way to go in order for it to mean revert back to 2016/17 levels (parity levels).

Exhibit 4: The long term perspective on Growth v Value relative performance

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September 6, 2022

The FT Wilshire 5000 continues to deliver strong long term real returns

Equities are a long duration asset class and returns should be viewed via the prism of long-time horizons

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Although recent volatility and inflation angst have produced negative nominal and real returns for the FT Wilshire 5000 over the last 12 months, it is worth remembering that equities are a long duration asset class and returns should be viewed via the prism of long-time horizons.

The chart and table below show the progression of FT Wilshire returns over the last 20 years. Real annualized returns have exceeded 7% over the five-,10- and 20-year periods.

Exhibit 1: The aggregate and annualized nominal and real total returns for the FT Wilshire 5000

The nominal return profile of the FT Wilshire 5000 style indices

In Exhibit 2, over a 20-year period small cap's annualized returns of 10.8% have exceeded the 9.8% delivered from large cap. However, small cap's annualized returns have lagged large cap returns over three-, five- and 10-year time frames.

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August 19, 2022

US valuations rebound from mid-June lows led by consumer durables, technology and retail sectors

US consumer durables, technology and retail have led the re-rating of the US market since mid-June

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After a significant PE de-rating in the first half of the year and a narrowing of valuation dispersion, US consumer durables, technology and retail have led the re-rating of the US market since mid-June.

US, Europe ex UK and Emerging Markets have seen the largest re-ratings since mid-June

Chart 1 shows the current regional 12m forward PEs, the scale of the de-rating from the start of the year to the lows in mid June and the re-rating since. Following a 30% decline in the PE from 22.5 to 15.7x in mid-June, the US has been among those to see the biggest re-ratings since, along with Emerging Markets and Europe ex UK.

Chart 1: Scale of regional PE de-ratings in the first half of the year and the recovery since mid-June

Consumer durables, technology and retail sectors have led the US re-rating

Looking into what has driven the US re-rating, Chart 2 again shows the latest 12m forward PEs and the shifts in valuations at the US sector level. As we can see, the consumer durables, retail and technology sectors have seen the largest re-ratings since mid June. These sectors saw some of the largest de-ratings in the first half of the year.

Chart 2: Status of US sector 12m forward PE and the journey traveled so far in 2022

The market sell-off in the first half of the year caused a substantial narrowing of valuation dispersion in the US

Drilling further into the dynamics within the US market, Chart 3 looks at the top quintile PE relative to the median stock PE. As we can see, the cluster of top quintile PEs has witnessed a significant relative PE expansion since mid-2017. The upshot of the market sell-off in the first half of the year, which had an outsized impact on more highly valued growth and tech stocks, is that we have seen a narrowing in the valuation dispersion between the top quintile and median stock PEs in the US, with the premium falling back toward pre-COVID levels in June. However, with the growth and tech sectors regaining market leadership since the US recovery, more recently we have seen the valuation dispersion beginning to widen again.

Chart 3: Top quintile US PE relative to the median stock PE


Source: Wilshire, Factset and Refinitiv, 10 August 2022

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August 18, 2022

US leads market recovery from the lows in mid-June after sentiment hit extreme lows

Following a record-breaking decline in the first half of 2022, markets have staged a recovery led by the US.

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The trough in June coincided with our US Composite Sentiment Indicator hitting, similar levels of pessimism seen during the midst of the Global Financial Crisis (GFC).

US relative performance almost back to December 2021 levels

Chart 1 shows the FT Wilshire 5000 index relative to the World ex US. After underperforming the World ex US index from the end of December through mid-June, the US has seen a big improvement in relative performance over the past two months. The recent period of outperformance has seen the US claw back most of the year-to-date underperformance, returning toward the peak levels seen at the end of 2021.

Chart 1: FT Wilshire 5000 relative to World ex US almost back to peak levels seen in December 2021

US market recovery coincides with Composite Sentiment Indicator hitting extreme lows

It was noteworthy that the rebound in the FT Wilshire5000 has coincided with sentiment hitting statistically significant levels. Chart 2 shows our US Composite Sentiment Indicator (CSI), which incorporates nine technical analysis and market breadth measures, and aims to identify levels of exuberance and pessimism. This has proven a useful market timing tool and contrarian indicator. The market rebound in June coincided with the US CSI hitting extreme levels of pessimism—over a 2.5 standard deviation move relative to a long-term average, and similar levels witnessed during the GFC. We can see that once these levels have been hit, the indicator does not stick around for long before moving higher. Should the market recovery continue, a key question will be when sentiment will approach overbought levels, at least in the short-term.

Chart 2: Our US Composite Sentiment Indicator hit extreme lows in June

Improving breadth within the US market

Looking at the breadth of the recent recovery in the markets, Chart 3 shows the percentage of stocks registering a Relative Strength Index (RSI) of over 70, which forms part of our Composite Sentiment Indicator and typically indicates an overbought signal for a stock or index. We show the latest readings versus the lows in June, as well as the five-year average level. The US has seen a fairly rapid rotation in sentiment, moving from 0% to around 16%, now at a similar reading to the peak levels we saw in December last year, and well above the five-year average. Conversely, using this measure of breadth the Chinese equity market has experienced a deterioration in sentiment over the same short period.  

Chart 3: The percentage of stocks registering an RSI of over 70 in the US has risen rapidly during the recovery

Source: Wilshire, Factset and Refinitiv, 10 August 2022

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August 4, 2022

US equities significantly outperform other regions in July

The 9.6% return for US equities in July exceeded all other major equity regions

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While July saw a rally in most equity market regions (with the notable exception of China), the notable performance was delivered by US equities which outperformed the World ex US index by 5.8%.

Chart 1: Comparing regional equity returns in July (USD, TR, %)

Source: Refinitiv, FactSet

Looking at 10-year annualized returns US equities have delivered 13%, more than twice the 5.9% return from the World ex US.

Chart 2: Regional 10-year aggregate and annualized returns (USD, TR, %)

Source: Refinitiv, FactSet

July produced an inflection in relative performance characteristics

The rally in the US relative performance in July saw it rebound back to levels seen earlier this year. By contrast, Emerging Market relative performance weakened

Chart 3: Relative performance charts for the US and Emerging Markets

Source: Refinitiv, FactSet

Sector weighted performance contributions explain why the US outperformed

To identify the driver of US equity outperformance in July, it is useful to utilize sector weighted performance contribution analysis. Exhibit 4 compares the sector weighted contributions for the US and the World ex US indexes. The majority of the almost 6% outperformance of US equities in July was almost entirely due to the scale of contributions from the Technology and Consumer Discretionary sectors.

Chart 4: Sector weighted performance contributions US and World ex US for July

Source: Refinitiv, FactSet

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August 3, 2022

FT Wilshire 5000 delivers strongest monthly rally since November 2020

The 9.6% return in July was driven by a rotation to growth stocks

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July witnessed a strong recovery in the FT Wilshire 5000 index driven by a rally in growth stocks. Mounting concerns about recessionary headwinds boosted demand for long duration growth stocks by reducing discount rates (via lower nominal and real yields) and by increasing demand for their defensive attributes. The 9.6% rally in the FT Wilshire 5000 was the fifth largest monthly return in the last 20 years.

Chart 1: The fifth largest monthly return over the last 20 years

Source: Wilshire

Chart 2: Large-cap growth relative performance has responded to declining real yields

Source: Wilshire, FactSet

The Technology, Consumer Goods and Digital Info sectors drove Growth performance

Sector weighted performance contributions take account of both the performance and respective sector weightings. Comparing the sector weighted contributions for large-cap growth and large cap value in July, it can be seen that the majority of growth's 6.4% outperformance relative to value was due to the size of the respective contributions from the key growth sectors - Technology, Consumer Goods and Services and Digital Information.


Chart 3: The sector weighted contributions to July performance

Source: Wilshire

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July 19, 2022

US equity market experiences one of its largest PE de-ratings in 30 years

The scale of decline in valuations was one of the largest de-ratings witnessed in 30 years

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A notable feature of the market fall over the course of the first half of 2022 was the scale of valuation shift it produced.

As can be seen in Chart 1 the US and UK markets witnessed the largest proportionate decline in their PE levels comparing mid - year valuations with those as at year end 2021.The US PE valuation has fallen -26.8% from 22.5x to 16.4x over a six-month period.

Chart 1: Regional 12M PE ratios - now v levels at the end of 2021

The 6 months decline in the US PE ratio has been one of the largest in 30 years

Measuring the six month change in the market PE and comparing this to historical moves we can see in Chart 2 that the recent decline US has experienced a statistically significant (3 standard deviation) valuation correction. This is one of the largest moves over the last 30 years.

Chart 2: Measuring the 6-month change in the US 12M PE


The valuation effect was the key driver behind negative returns in 2022

Chart 3 below decomposes market return drivers into three categories - the contribution of changes to EPS forecasts, Dividends and Valuations. YTD data as at end June 2022 clearly shows the scale of performance drag delivered by the decline in PE valuations

Chart 3: YTD regional market return decomposition

PE relative analysis highlight interesting global valuation dynamics

A function of the US market experiencing a proportionately large PE de-rating is that it has seen its PE relative premium (comparing the PE of the US market to that of the World ex US market) decline from a peak of 55% in March this year to a current level of 32%.

By contrast the PE relative for Emerging Markets has moved from a c. 20% discount to parity - something last seen in 2016.

Chart 4: PE relatives comparisons

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