There’s a bright side for investors reeling from a rare three-month slide in US stocks: The gloom is setting the stage for gains ahead, if history is any guide.
A contrarian indicator from Bank of America Corp. that compiles Wall Street strategists’ recommended allocation to stocks is getting closer to flashing “buy.” The gauge’s current level implies a 15.5% price return for the S&P 500 Index over the next 12 months, strategists led by Savita Subramanian said Wednesday in a note to clients.
The bank’s “Sell-Side Indicator” tumbled in October by the most in a year, and is approaching a level that indicates an extreme degree of bearishness that is bullish for stocks, the group’s analysis shows.
“The SSI has been a reliable contrarian indicator – in other words, it has been a bullish signal when Wall Street was extremely bearish, and vice versa,” Subramanian wrote.
The S&P 500 dropped 2.2% in October, capping its first three-month slump since early 2020, as escalating tension in the Middle East and surging Treasury yields dented already shaky sentiment.
Losses across US stocks and other risk assets have appeared to vindicate Wall Street bears including Morgan Stanley’s Mike Wilson and JPMorgan Chase & Co.’s Marko Kolanovic, who have warned of the lagged impacts of rising interest rates even as equity markets rallied in the first part of the year. The S&P 500 is still up about 10% this year.
US stocks kicked off November trading with a modest advance on Wednesday as investors awaited the Federal Reserve’s afternoon policy decision. The central bank is widely expected to hold rates steady at the highest in more than two decades, and affirm a message that it plans to keep them elevated for longer to quell inflation.
In Subramanian’s view, the concern about the potential threat to US stocks from higher borrowing costs might be overblown.
“While higher rates have weighed on sentiment, we believe US corporates and consumers could hold up better than expected,” she said.
Historically, when the bank’s Sell-Side Indicator has been at the current reading or lower, 12-month forward returns for the S&P 500 were positive 95% of the time, with a median gain of 21%, according to Bank of America.
Although the indicator remains in “neutral” territory — a less predictive range than the more extreme “Buy” or “Sell” thresholds — it is three times closer to flashing a contrarian “Buy” than a “Sell” signal, the strategists said.’