Goldman Sachs: All of our clients are worried about the same thing

Sam Ro
Managing Editor

“Is an equity correction imminent?”

Goldman Sachs’ top stock market analyst David Kostin says that’s the question everyone is asking.

“Clients keep asking about an impending equity downturn,” he wrote in a new research note. “Reasons cited include the 8-year bull market and economic expansion, high valuation, low volatility, Fed tightening, and politics.”

Ironically, awareness of this long list of worries may actually be making the market less vulnerable to a major sell-off — as it inhibits reckless buying. This brings us to the two key reasons why a market correction remains at bay.

Markets are not euphoric

“First, investors are not complacent,” Kostin said. “In Sir John Templeton’s timeless observation, ‘Bull markets are born on pessimism, grow on skepticism, mature on optimism, and die on euphoria.’ Investors today are situated between skepticism and optimism.”

And this is not just based on the soft data coming from sentiment surveys. The hard data reflects conservative positioning.

Goldman Sachs clients are nervous about the stock market. (Flickr / Alon)

“Few are euphoric as 27% of core managers are beating their benchmark,” Kostin added. “‘Tormented bulls’ best describes investor mentality. Alpha-seekers have normal cash positions (3.2% of mutual fund assets), active manager redemptions are offset by beta inflows (ETFs), and corporates continue to repurchase shares.”

Speaking of hard data, the fundamentals underlying the economy remain quite strong, despite all of the worries out there. This is the second reason why Goldman Sachs isn’t worried about a market correction.

Economic growth persists

“Second, US economic growth persists led by consumers that account for 69% of GDP,” Kostin said. “Monthly job growth has averaged 175K YTD, wages are rising (our leading indicator is a 2.7% rate), confidence is at the highest level since 2001, and household balance sheets are the strongest since 1980.”

This growth at the macroeconomic level is translating to earnings and investment at the business level.

“For corporates, S&P 500 sales and EPS will rise by 5% and 7% in 2018,” Kostin continued. “‘Firms of tomorrow’ with Growth Investment Ratios averaging 91% of CFO in past 3 years (vs. S&P 500 median of 17%) will grow 2018 sales and EPS by 7% and 12% and will outperform should a market hurricane occur.”

US President Donald Trump talks about hurricane Irma as First Lady Melanie Trump looks on, September 10, 2017 in Washington, DC. (Olivier Douliery-Pool/Getty Images)

Since the beginning of the chaotic Trump administration, experts have been reiterating that fundamentals would drive markets higher despite the political noise.

This is not to say Kostin is a bull. In fact, he expects the S&P 500 to close lower by the end of the year.

“Of course, at some point the S&P 500 will retreat; it has been 14 months since a 5% sell-off and 19 months since a 10% correction,” he said.

Sam Ro is managing editor at Yahoo Finance.

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