(Bloomberg) — Goldman Sachs Group Inc. lowered its year-end target for the S&P 500 index from 4,300 to 3,600, arguing that a dramatic shift in the outlook for rising interest rates will weigh on valuations for US stocks.
Most read by Bloomberg
The higher interest rate scenario in Goldman’s valuation model supports a price-earnings multiple of 15 times, compared to 18 times previously, strategists including David J. Kostin wrote in a note Thursday. “Our economists are now forecasting that the FOMC will raise key rates by 75 bps in November, 50 bps in December and 25 bps in February for a peak fund rate of 4.5%-4.75%.”
Goldman said risks for its latest forecast are still on the downside because of the increasing likelihood of a recession — a scenario that would reduce corporate profits, widen the interest rate gap and push the US stock benchmark to a low of 3,150. Federal Reserve chairman Jerome Powell has indicated he would risk a recession to fight inflation, raising fears that central banks could derail global growth.
Equity valuations and real returns have been deadlocked in recent years, but that relationship has recently been disrupted and poses a risk to equities, the US investment bank said. It had previously been assumed that real interest rates would end at around 0.5% in 2022, compared to a current assumption of 1.5%.
A majority of equity investors believe a hard landing scenario is inevitable and their focus is on the timing, magnitude and duration of a potential recession, Kostin and his colleagues wrote. Under such a framework, the 3-, 6- and 12-month S&P 500 targets come in at 3,400, 3,150 and 3,750, respectively, they said.
Certainly, the S&P 500 has underperformed the Stoxx Europe 600 Index since Sept. 12, when Kostin and his team said they saw the US as a safer bet than Europe. They also say a year-end rally in the US stock index to 4,300 is possible if inflation shows clear signs of easing.
Goldman’s new baseline target implies a 4.2% decline in the US stock benchmark from Thursday’s close. It predicts 6-month and 12-month targets for the meter at 3,600 and 4,000, respectively.
The US bank, like many of its colleagues, advises that heightened uncertainty requires a defensive positioning from investors and that they should own stocks with quality characteristics such as strong balance sheets, high returns on capital and stable revenue growth.
(Adds additional comments from the fifth paragraph.)
Most read from Bloomberg Businessweek
©2022 Bloomberg LP