Investors remain too optimistic about the timing of a Federal Reserve interest-rate cut, according to RBC Capital Markets strategists, who see the risk of an 8% slump in US stocks if easing fails to materialize this year.
The team led by Lori Calvasina laid out three year-end scenarios for the S&P 500 Index based on expected corporate earnings, and the outlook for inflation and interest rates.
The benchmark index could drop to 4,900 points if the Fed holds rates at current levels, inflation proves stickier than expected and the 10-year Treasury yield remains below 5%, the strategists wrote in a note. They also see corporate earnings rising less than the average analysts’ forecast.
If the central bank were to cut rates as expected, but earnings came in below projections, the S&P 500 would trade around 5,100 points — about 5% lower than current levels, Calvasina said. And the third — bearish — scenario sees the benchmark slumping almost 16% if stubborn inflation results in Fed rate hikes.
US stocks have scaled record highs this year on bets that inflation will ease fast enough for the central bank to reduce interest rates. However, the rally appears to have stalled as recent data showed a hot labor market.
Investors are now only pricing in one full rate reduction by December, according to swaps data, but even that projection is too optimistic, Calvasina said. And with signs of pressure on low-income consumers fanning concerns about economic growth, “there is some modest downside risk to the US equity market if the Fed does nothing this year and inflation is stickier than expected.”
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