Asset Class Report: Equities
Asset Class Report: Equities
S&P500 Views and R:R
This article is meant to be the second of the “Asset Class Reports” (see “About” Section) focusing on equities. I laid out the updated version of this Substack in this report: link
Today we are focusing on equities and the specific drivers that determine the current risk-reward. If you want to dig into how to analyze equities more, check out the S&P500 primer I wrote here:
Big Picture:
When we zoom out we can see that S&P500 performance during 2022 was primarily driven by the valuation function which was impacted by the FED’s rate hikes. As we moved into 2023, we had multiple injections of liquidity and a surprise in growth. This caused a considerable rally in equities during the first half of 2023 until August. Since August, the primary driver has been interest rates on the long end of the curve as we saw a bear steepener. This bear steepener was driven by the announcement from the Treasury that they would be issuing more duration to fund government outlays. The Treasury made a subsequent announcement indicating that they were going to issue LESS duration than expected by the market.
These events have been marked on the chart below:
Here is a second chart showing the S&P500 and the yield curve inverted. As you can see, they moved in lockstep since the August announcement:
When we look at earnings expectations, they haven’t changed dramatically which indicates the primary driver of equities has been the valuation component. Valuations are primarily driven by macro liquidity dynamics which is why having a firm grasp of macro liquidity is fundamental for taking views in equities.
There are two primary variables we need to analyze in order to have an informed view of equities: Earnings and Valuations.
After we have taken views on both of these, we can use additional signals such as volatility, momentum, and positioning in order to further refine our view of the risk-reward and execute trades.
Attribution Analysis:
As we move into the end of 2023, we are in a position where analyzing the specific drivers is going to become increasingly difficult.