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Well, that was one wild week. Leading into the U.S. midterm elections, expectations were all over the map. Democrats would make gains for sure, but would Trump contest the results, would he resume attacks on Iran afterwards, and would Republicans pile on policies in a rushed haphazard manner? It appears the size of the blue wave defused all these risks, and markets reacted positively for a day. Then the blue wave turned markets red. Or did it?
Yes, the popular narrative is concern over any potential legislation that slows data centre build outs. With the AI bubble broadly represented in many equity markets and the infrastructure buildout being one of the biggest economic growth drivers, slowing sure doesn’t sound good. We are not buying this narrative. Both parties are involved in data centre buildouts in different jurisdictions. And keep in mind, they can be built in many different locations. Yes, the amount of data centre builds in Texas is a bit too concentrated but if they slow, other states (or perhaps even provinces) would start to look appealing.
This market was fragile before the election results. The AI enthusiasm in the market peaked in June and had been struggling since. Q3 earnings season did not help with some major AI companies failing to exceed elevated expectations. The election was just a cup of kerosene thrown on a smoldering fire. This led to a rapid deleveraging trade last Thursday.
It is no secret there is a lot of leverage in this market, whether straight up margin accounts, hedge fund leveraged bets or innovative products that allow investors to more easily apply leverage. A popular trade, and when we say popular we mean crowded, has been long AI and short defensives such as health care or consumer staples. Some of this trade was likely unwinding over the past month, as AI stocks oscillated a bit and defensives flew higher. Well, that unwind went into ludicrous speed last week. Markets also appear to have tripped into CTA sell zones that fed more selling and deleveraging.
When systematic selling floods the market, prices overreact. Thursday pushed the S&P 500 down about 6% from its October 6 high. More interesting is the tech-dominated NASDAQ being off 12% from its high. With the economy in very good shape, this has us in the camp that this is likely a V-shaped correction and not anything more nefarious. The tougher question is whether it’s a small v or a BIG V. We don’t know the answer to this one, as it will only be known well after the fact. But this kind of exogenous shock, the election results, and systematic selling certainly looks like an opportunity.
First off, from a technical perspective, things already look oversold. During the past few years, most times when the S&P 500 RSI touched or neared 30, those occasions proved to be good entry points.
We would add valuations have become rather compelling. We typically don’t compare one index to another from a valuation perspective mainly because different index compositions often have different valuation dynamics. But emerging market valuations look really cheap, and the S&P 500 at 18 or 19x is also compelling.
Final thoughts
Obviously this could become a bigger V, but the pullback, systematic selling pressure and valuations certainly are encouraging. We put more emphasis on the economy and earnings relative to politics as it pertains to markets and portfolio construction. Political shifts do matter, even a bit more so in the era of Trump, but it has been our experience the market more often overreacts to politics. We think that is happening today.
Source: Charts are sourced to Bloomberg L.P., Purpose Investments Inc., and Richardson Wealth unless otherwise noted.
The contents of this publication were researched, written and produced by Purpose Investments Inc. and are used by Richardson Wealth Limited for information purposes only.
*This report is authored by Craig Basinger, Chief Market Strategist at Purpose Investments Inc. Effective September 1, 2021, Craig Basinger has transitioned to Purpose Investments Inc.
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Richardson Wealth Limited
The opinions expressed in this report are the opinions of the author and readers should not assume they reflect the opinions or recommendations of Richardson Wealth Limited or its affiliates. Assumptions, opinions and estimates constitute the author’s judgment as of the date of this material and are subject to change without notice. We do not warrant the completeness or accuracy of this material, and it should not be relied upon as such. Before acting on any recommendation, you should consider whether it is suitable for your particular circumstances and, if necessary, seek professional advice. Past performance is not indicative of future results. The comments contained herein are general in nature and are not intended to be, nor should be construed to be, legal or tax advice to any particular individual. Accordingly, individuals should consult their own legal or tax advisors for advice with respect to the tax consequences to them.
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Forward-looking statements are based on current expectations, estimates, forecasts and projections based on beliefs and assumptions made by author. These statements involve risks and uncertainties and are not guarantees of future performance or results and no assurance can be given that these estimates and expectations will prove to have been correct, and actual outcomes and results may differ materially from what is expressed, implied or projected in such forward-looking statements. Assumptions, opinions and estimates constitute the author’s judgment as of the date of this material and are subject to change without notice. Neither Purpose Investments nor Richardson Wealth warrant the completeness or accuracy of this material, and it should not be relied upon as such. Before acting on any recommendation, you should consider whether it is suitable for your particular circumstances and, if necessary, seek professional advice. Past performance is not indicative of future results. These estimates and expectations involve risks and uncertainties and are not guarantees of future performance or results and no assurance can be given that these estimates and expectations will prove to have been correct, and actual outcomes and results may differ materially from what is expressed, implied or projected in such forward-looking statements. Unless required by applicable law, it is not undertaken, and specifically disclaimed, that there is any intention or obligation to update or revise the forward-looking statements, whether as a result of new information, future events or otherwise.
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