Wall Street analysts often find themselves missing the mark when it comes to predicting market trends. Even the most renowned money managers tend to have success rates that are only slightly better than the outcome of a coin flip. This is why many predictions made by these analysts often fail to materialize.
In contrast to this trend of inaccuracies, Tom Lee of FundStrat has been impressively accurate in his predictions for 2023. He confidently forecasted a rally in the stock market this year, reaffirming his bullish outlook during the spring when the S&P 500 was experiencing a dip. His predictions stood out as the S&P 500 seemed poised to retest the lows of the previous year. More recently, Lee correctly anticipated that August would present some challenges for the market. Given his track record, it would be wise for investors to pay heed to Lee’s insights regarding future developments.
One of the primary reasons behind the lackluster performance of the S&P 500 since July has been the surge in Treasury yields. These yields play a critical role in equity valuation models as they are considered the risk-free rate. When the 10-year Treasury note yield rose from 3.75% to 4.3%, it led to a reduced willingness among investors to pay higher prices for future cash flows.
Another factor negatively impacting stocks has been the resurgence of the U.S. Dollar. Last year, the Federal Reserve implemented a series of rapid rate hikes, causing the dollar to strengthen significantly. This had adverse effects on multinational companies, denting their demand and impacting their financial results. Although the dollar experienced a decline from October through June, it has witnessed a sharp rebound since July, creating a similar scenario this year.
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The driving force behind the rise in yields and the dollar is the Federal Reserve’s anticipated approach to interest rates. However, Tom Lee believes that concerns regarding the Fed’s need for further rate increases may be misplaced.
A potential boon for investors could be lower inflation. While gasoline and oil prices have been on the rise this summer, the Federal Reserve primarily focuses on the less volatile components of inflation. Core inflation metrics, which exclude energy and food prices, are of greater importance to the Fed.
This is where the good news lies for investors. Tom Lee is of the opinion that core inflation is likely to continue its downward trajectory, giving the Federal Reserve the leeway to keep interest rates unchanged rather than raising them. Lee explained, “Many cite the fact that oil is up and headline [Consumer Price Index] CPI will be +0.6% or higher, the highest readings since mid-2022. Energy does impact goods and some services. But recall, the largest weight in Core CPI is housing at 40%, and unless higher oil prices drive up the price of homes, this surge matters less to the Fed stance.”
So, despite the expectation of higher headline CPI in August, the core CPI, which is more influenced by housing costs, might come in lower than anticipated. If this happens, the likelihood of further rate hikes would diminish, causing Treasury yields and the dollar to retreat, which, in turn, would support the stock market.
Lee further noted, “The Street is looking for August Core CPI to come in at +0.20% MoM. We estimate that August Core CPI will come in closer to +0.16% to +0.18%, reflecting downside from airfares, softer used car prices and with possible help from softer shelter OER (owners equivalent rent).” Such a milder inflation figure could catch investors off guard, especially given the recent souring of sentiment in the market.
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In conclusion, despite the recent uncertainties and fluctuations in the market, Tom Lee maintains a positive outlook. He believes that after navigating through the current choppy waters, the S&P 500 has the potential to reach 4,750 or even higher by the end of the year. Investors may find solace in Lee’s historically accurate predictions as they navigate the dynamic landscape of the stock market.
