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The Sell-Off In Stocks May Have Only Just Begun

By Michael KramerMarket OverviewFeb 26, 2021 05:11AM ET
www.investing.com/analysis/the-selloff-in-stocks-may-have-only-just-begun-200563482
The Sell-Off In Stocks May Have Only Just Begun
By Michael Kramer   |  Feb 26, 2021 05:11AM ET
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This article was written exclusively for Investing.com

Stocks have fallen sharply, and the decline should not come as a surprise to anyone. Valuations in many equities have been at historically high levels. Now that rates have risen, the equity market is in the middle of a massive repricing.

The big move higher has been driven by the concept that low-interest rates could expand PE multiples. But rates have risen sharply in recent weeks. These higher rates are making the stock market more expensive when compared to bond yields. If stocks need to reprice for this shift in rates, it could result in a rather steep equity market sell-off, perhaps more than 20%.

The S&P 500 has seen its PE ratio rise to historically high levels since the March 2020 lows. In fact, they have reached levels not seen since the late 1990s, with the S&P 500 now trading at roughly 22 times 12-month forward earnings estimates of $176.03. That is the highest the valuation has been on a forward earnings multiple since the early 2000s.

When valuing the S&P 500 on an earnings yield basis versus 10-year breakeven inflation expectations, one would find that the valuations are at extremely high levels. With a spread currently at 2.5% versus a 200-day moving average of 2.8% and a historical average of 4.24% since 1997, it would imply that rising rates on the 10-year Treasury and 10-year TIPS could harm equities, resulting in a massive repricing.

Earnings Yield To Inflation Expecations
Earnings Yield To Inflation Expecations

Over the last 5 years, the average spread between the S&P 500 and 10-Year Breakeven Inflation Expectations has been around 3.9%. Assuming that spread rises to the historical average of 3.9% would push the earnings yield on the S&P 500 back to roughly 6%. That would give the S&P 500 a PE ratio of around 16.5, based on forward earnings of $176.03, the index could fall to approximately 3,000, a drop of about 27%.

It seems like technology stocks have seen a lot of multiple expansion over the past 12 months and could be the hardest hit in a repricing environment triggered by rising rates. The significant and steady growth rates became a safety net for those investors looking for a place to park their money.

For example, Amazon (NASDAQ:AMZN) is trading at 3.2 times 12-month forward sales estimates, which is at the upper end of its historical range and well above its average of around 2. Meanwhile, NVIDIA (NASDAQ:NVDA) has seen its PE multiple climb to approximately 45 times 12-month forward earnings estimates and is at the very upper end of its 5-year range.

Amazon
Amazon

The banks, however, have been one of the big winners recently. While they could undoubtedly get pulled into a downdraft, they are likely to benefit longer-term. Rising rates on the long-end of the yield curve have helped steepen the curve dramatically. It is likely to help the banks’ revenue and net interest income boosting profits.

Stocks like JPMorgan (NYSE:JPM) or Bank of America (NYSE:BAC), although not cheap at current levels after seeing a massive run-up, could undoubtedly become attractive in a broader stock market pullback. Especially if the rising rate environment comes with continued economic growth.

A market drawdown would undoubtedly be welcome after the euphoric run it has had over the last 12 months. Trying to predict a pullback is never easy and not a task to take lightly. But the rising rate environment and richly valued stock market seem to have all come together, creating a perfect storm.

The Sell-Off In Stocks May Have Only Just Begun
 

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The Sell-Off In Stocks May Have Only Just Begun

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Comments (62)
Edward Gerety
EdwardTjGerety Mar 01, 2021 10:37AM ET
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Wow! you kept this up. Even with $2T of fake money headed into the market with only 6% targeting Covid you thought there'd be a sell off. Keep the day job, as this one isn't for you.
Bullish Bull
Bullish Bull Mar 01, 2021 9:59AM ET
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I think it ended.
Viking Fire
Viking Fire Mar 01, 2021 1:55AM ET
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Last time they thought bond yields would have a dramatic effect they were way off and cost a lot of people a lot of money. This is the end of terrible times and people are ready to spend that cash theyve had in their bank accounts to live again. With JNJ vaccines the covid shot will be the new flu shot and everyone can live life again. Things are looking good. Sure there will be a little correction but dont listen to the doom sayers.
Peter Cooper
Peter Cooper Mar 01, 2021 1:11AM ET
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You can see inflation building very clearly in higher oil, industrial metals and agricultural prices. This is no mirage. That is why bond yields have been rising, and will rise further. Stocks can only compete with higher dividends and one way to achieve that is with lower share prices; the alternative is to raise profits and that is much tougher during a global economic depression, and what else do you call it? Stocks are way too high for the economy we are in and face going forward.
Jeremy Thornton
Jeremy Thornton Mar 01, 2021 1:11AM ET
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Pull out and wait for the correction unless your just a long term holder and not a short term trader. I love pull backs because I am an options trader. Puts all the way down and calls all the way back up again.
Levent Okten
Levent Okten Mar 01, 2021 1:11AM ET
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To be out of the stocks market for a while seems necessary , maybe bonds can be bought . The question is for how long ?
Viking Fire
Viking Fire Mar 01, 2021 1:11AM ET
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What are you suggesting? To put money in bonds lmao? Or take our money out and do nothing with it? What would be the point of that? You want to grow your money you either have to gamble with something like crypto or just keep it in the market.
andrew lee
andrew lee Mar 01, 2021 12:08AM ET
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the sell off in stocks may have just ended
Viking Fire
Viking Fire Mar 01, 2021 12:08AM ET
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Well said
Jeremy Thornton
Jeremy Thornton Mar 01, 2021 12:08AM ET
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That was no sell off. It didn't even break out of a daily trend. Bounced off the 50 day SMA. A sell off would hit or break the 100 day at least.
Art Fire
Art Fire Feb 28, 2021 9:20PM ET
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When they are negative that's the time to buy. When they are positive, they are trying to scrw you.
Christian Buckley
Christian Buckley Feb 28, 2021 5:29PM ET
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this guys and 99% of the articles on this website are to scare the small investor. Just skim the article, realize its not logical and carry on buying the dip on these suits. retail for the win. buy quality companies and make them realize were here to stay. any suits looking for a job, I think the publix deli is hiring. We don't need "financial advisors" stealing from us, trying to do for us what most people are capable of doing themselves. 2021, let's rip it boys. 15%-%20 on the Nasdaq. bulls gonna shred.
Viking Fire
Viking Fire Feb 28, 2021 5:29PM ET
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Should start pedge funds... the peoples band together to hedge and reward companies helping main street
Yaseen Muhammad
Yaseen Muhammad Feb 28, 2021 1:53PM ET
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Sellers dream
Gershom Zvi
Gershom Zvi Feb 28, 2021 12:15PM ET
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He is always late at “current” news
Gershom Zvi
Gershom Zvi Feb 28, 2021 12:14PM ET
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Amazon is bad example coz it is trading below August 2020 for long time and parabolic during September 20- February 21
Larry Deangelis
Larry Deangelis Feb 28, 2021 10:43AM ET
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Good article! If the S&P trades lower on the year (3748.75) you could see a replay of 1987 when all the fund managers had to sell. Tuesday is the 9th day which is usually the selling climax. Don't buys the dips!!
Raymond Huggard
Raymond Huggard Feb 28, 2021 10:19AM ET
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Easy ti say after it started. Where was this guy 2 weeks ago?
Patron Silver
Patron Silver Feb 28, 2021 10:00AM ET
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classic example of 'noise'
edwin mo
edwin mo Feb 28, 2021 8:09AM ET
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🌈 🐻
apostolos sideris
apostolos sideris Feb 27, 2021 2:29PM ET
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simple clear thinking.thanks a lot
Badhon Mia
Badhon Mia Feb 27, 2021 10:04AM ET
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Hallo Sir
hshs gfsd
hshs gfsd Feb 27, 2021 10:04AM ET
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Hello mia
mehmet öztürk
mehmet öztürk Feb 27, 2021 9:22AM ET
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If next week we see a reversal in US10Y rates, maybe triggered by statements from FED governors, would you expect SP500 continue its upward trend ? 1 Million USD question :)
Viking Fire
Viking Fire Feb 27, 2021 5:58AM ET
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All this is are institutions taking their bonuses out while QE and interest rate is low.
George Pichurov
George Pichurov Feb 27, 2021 1:32AM ET
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I see many people with a firm belief in socialism, albeit a federal one. That's good. In many perspectives.
Gonçalo Barradas
Gonçalo Barradas Feb 26, 2021 8:38PM ET
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I already lost 10% of my investments. And some people say I should wait to sell? In a matter of days I would see 20% loss. I'm sure.
Shaun De Voy
Shaun De Voy Feb 26, 2021 8:38PM ET
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I'm down 20 percent already
George Pichurov
George Pichurov Feb 26, 2021 8:38PM ET
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Shaun De Voy  so you are down 60 overall?
Gershom Zvi
Gershom Zvi Feb 26, 2021 8:38PM ET
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It depends on stocks in your portfolio If you have Apple it will be back easiely for sure
Joe Ruscigno
Joe Ruscigno Feb 26, 2021 8:28PM ET
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I don’t think the heavy stuff is gonna come down for quite some time.
Billy Bilnaad
Billy Bilnaad Feb 26, 2021 6:50PM ET
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Well hello shorty. Probably best to take your profits because your beloved bottom is reached sooner than later.
David Bartolone
TechHedz Feb 26, 2021 6:50PM ET
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I always see him spamming his articles that appear here and on seeking Alpha to other stock trading forums. Talk about a guy who claims no positions but has to be very short on everything and has a huge losing streak. I'm just surprised both sites have not banned his nonsense.
Tomer Nuni
adrenaline187 Feb 26, 2021 6:50PM ET
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David Bartolone likewise - exactly my thoughts about him. Every word bro. 👌
Hardik Patel
Hardik Patel Feb 26, 2021 6:03PM ET
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20 percent lmao youre a joke
Semih Unalan
Semih Unalan Feb 26, 2021 5:23PM ET
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Fed will most likely intervene and start buying bonds if the yields do not decrease on their own in a week or two. It is funny how people have 0 faith in the establishment these days. Calm down and think rationally. Invest, don't gamble. It is obvious that Fed will do whatever it takes ti get the economy back on track and that means keeping rates low for the foreseeable future, meaning at least 2-3 years.
Silver House
Silver House Feb 26, 2021 5:23PM ET
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print more, then USD goes down, inflation will have even more fuel, rates cannot be kept down 2-3.years, only a few months, don't trust Fed, they are liars
George Pichurov
George Pichurov Feb 26, 2021 5:23PM ET
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As far as my knowledge goes FED currently buys $120 bln./month bonds. Even socialists without a free market reach a cap on printing.
Enrico Delfini
Enrico Delfini Feb 26, 2021 5:23PM ET
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Fed has UNLIMITED printing power; the Fed could DECIDE not to print or to print less, but that would based on a decition, not on a limitation which does not exist
Emil Miclea
Emil Miclea Feb 26, 2021 2:21PM ET
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Dude you are a just a negative man
Gershom Zvi
Gershom Zvi Feb 26, 2021 2:21PM ET
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He put a big money for shorting
 
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