US stocks 'too optimistic' after recent rally, tech stocks especially 'vulnerable' - Citi

With the S&P 500 rebounding nearly 15% from the October lows, the MSCI US is no longer pricing in an EPS contraction. For Citi’s equity strategist Robert Buckland, this is “too optimistic” as European and Emerging Markets (EM) equities are discounting a drop in earnings of around 10%.

The MSCI US is now pricing in a 4% EPS growth, which is close to the analyst consensus. On the other hand, Citi’s equity strategists led by Scott Chronert are expecting a 3% drop in EPS growth for 2023.

“Other major markets are pricing in mild EPS recessions, so below the analyst consensus. The UK valuation looks most bearish (19% EPS downturn priced), although that still looks optimistic compared to its average contraction (35%). The US has historically seen the least severe downturns (EPS recession average 28%),” Buckland said in a client note.

Despite the market being “too optimistic,” some sectors are more bearish than others with deep cyclicals - e.g. Financials, Materials, and Energy - discounting a 20% EPS recession.

“History suggests it could get even worse,” Buckland added.

“The more tech-related global sectors (Communications Services, IT, Consumer Discretionary) are all discounting better news than the analyst consensus. Amongst the traditional cyclicals, Financials and Materials valuations now suggest downturns at the milder end of their historic ranges,” the strategist concluded.

Net-net, Buckland believes current valuations - especially in “fashionable” more expensive sectors like tech - are “vulnerable” if EPS behaves like it did in previous cycles. Hence, he urges investors to stay defensively positioned.

“Investors looking to buy defensiveness might be better served in the traditional safe havens such as Health Care and Consumer Staples,” the strategist concluded.

By Senad Karaahmetovic

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