"What Should I Do with My US Stocks?" [Q&A]

Korea Investment & Securities, 10 Questions and Answers on Increased Volatility in the US Stock Market

[Asia Economy Reporter Hwang Junho] As inflation soars in the United States, the stock market has plunged, deepening the concerns of Seohak Gaemi investors who had invested in the US stock market. Korea Investment & Securities compiled answers to 10 questions swirling in the minds of these worried Seohak Gaemi investors and released them in a report format on the 15th.

According to the report, stock market volatility is expected to continue this month, and it is not too late to make judgments about the stocks held by Seohak Gaemi investors after reviewing the results of the Federal Open Market Committee (FOMC) meeting scheduled for the 16th. It also noted that different strategies are needed depending on the style of the stocks held, and diligent monitoring will be necessary given the high market volatility.

Companies that surged sharply last year have all undergone corrections. What should be done with the stocks currently held?

If it is an ETF tracking major US indices, holding rather than panic selling is recommended. It should be noted that the 12-month earnings per share (EPS) of the S&P 500 and Nasdaq are rising, while the price-to-earnings ratio (PER) has decreased compared to the average since the early 2000s before the smartphone era.

Responses to held stocks should vary by style. If you hold small- and mid-cap growth stocks, you may experience high volatility this month as well. However, if you hold large-cap or defensive stocks, holding them is reasonable. Although a rebound will take time, a bear market rally can be expected.

Why is this happening this year?

Factors that cannot be compared by data alone are complexly reflected, increasing stock market volatility. There are more factors to consider compared to 2020?2021.

In the past, even when the base interest rate hikes began and the Federal Reserve's asset reduction was underway, the decline was not large and recovery was quick. During times of geopolitical risk expansion and intensified US-China conflicts, the adjustment range of US indices remained within about 10%.

On the other hand, recently, COVID-19 and competition between G2 countries have increased market volatility. Unlike past wars that led to armed conflicts, many countries are intervening in the Russia-Ukraine full-scale war through various means. Countries that introduced zero or negative interest rates have changed their monetary policy directions, increasing volatility in interest rates and exchange rates. As the liquidity-driven market ends, sensitivity to valuation has also increased.

It is a continuously changing macro environment that cannot be addressed with a single directional approach. It is a time to be more diligent than before.

How should one respond if the US indices fall further?

The S&P 500 index has fallen more than 20% since the beginning of the year, entering a bear market. This environment differs from that of World Wars I and II or the Great Depression. There could be inflows of bargain buying.

In the US, it is recommended to respond by sector and company rather than the entire index. Sectors to watch during periods of rebound buying inflows are those expected to see increased demand despite inflationary pressures, unlike in the past.

This includes large companies with strong brands and price competitiveness, essential consumer goods companies, and reopening companies with a high proportion of Asian sales where increased consumption is expected despite anticipated rises in labor and logistics costs.

In the mid- to long-term (6 to 12 months), defense companies benefiting from increased government and private spending during intensified international conflicts, and companies related to industrial automation due to supply chain restructuring are expected to offset cost increases with sales growth.

If a 75bp hike is decided at the June FOMC meeting, should all US stocks be sold?

With historic inflation rates and consumer price indices announced, the Chicago Mercantile Exchange (CME) Fed Watch tool indicated a 97% probability of a 75bp rate hike at the June FOMC. As of the early hours of the 15th, this probability dropped to 95%, but the possibility of a giant step cannot be ruled out.

However, since the US stock market tends to price in macro indicators in advance, some uncertainty may be resolved, and the Nasdaq index’s 10% drop from the previous week suggests that anxiety about the FOMC has already been reflected in the index.

It is recommended to maintain held stocks rather than cutting losses before the FOMC meeting. Even if the decline is significant after the FOMC, the current 12-month forward PER has dropped to the mid-15 times range. Given the reduced valuation burden, holding appears advantageous.

Is it okay to buy despite the large drop?

The US S&P 500 index has fallen 21% and the Nasdaq 31% since the beginning of the year. This is a result of increased caution about a 'perfect storm' (where individual factors have limited impact but multiple factors occur simultaneously, amplifying destructive power and market volatility). Market volatility can expand even with minor factors.

Regarding buying timing, it is not too late to enter after checking the results of the FOMC meeting (16th at 3 AM), the Bank of England (BOE) meeting (16th at 8 PM), and the Bank of Japan (BOJ) meeting (17th).

Some factors may have limited impact. However, since various factors are occurring simultaneously, this week may continue to see repeated ups and downs.

If there is a slight rebound, should additional purchases be made?

There is no need to be aggressive. Since this year has seen large fluctuations around the FOMC results, it is not too late to enter after confirming the meeting outcomes. Responses can be made in an environment where volatility in interest rates and exchange rates has eased.

When will a trend reversal rebound appear?

The caution regarding the 'perfect storm' must ease. Caution about stagflation must ease and volatility must decrease.

For this, a US-Saudi agreement or regulatory easing to address oil supply uncertainties is needed. Additionally, companies must report better-than-expected earnings to improve lowered guidance and consensus. Furthermore, confirmation of a peak in inflation and signs of fundamental improvement in US companies are necessary. Until then, repeated fluctuations are expected to continue.

If additional purchases are made, should they be US stocks?

US indices are expected to have strong long-term growth potential. However, if the Biden administration does not improve its response to oil prices, short-term growth potential will be limited. Conversely, Japan has many companies that could improve earnings due to yen weakness and easing of COVID-19 restrictions.

When volatility in exchange rates and interest rates eases and meaningful earnings-based growth is possible, US indices are expected to have strong growth potential. However, in the short term, investing in Japan can be considered as a response strategy.

What companies should be considered to increase the proportion of US stocks?

Factors that increased market volatility in the first half of this year have not been resolved. Since volatility is expected to continue in the second half, a 'barbell strategy' is recommended. This involves diversifying between sectors and companies with growing demand in the mid- to long-term and defensive companies.

Defensive companies typically include essential consumer goods firms. Due to corrections in Walmart and Target, the entire essential consumer goods sector fell 9% month-over-month, the second-largest drop after cyclical consumer goods. These companies’ valuation burdens have eased due to last month’s correction, and they have historically had a high probability of rising even during economic slowdowns and recessions, making entry less burdensome. However, since these companies benefited from COVID-19, growth may slow compared to last year.

What can be done now to decide on a response?

It is understandable to be cautious. If making any decision is difficult, it is not too late to first check the cluster of monetary policy meetings scheduled this week before deciding.

Besides monetary policy meetings, the NATO summit at the end of this month should be watched carefully. It could increase international conflicts and commodity supply volatility. President Joe Biden’s visit to Saudi Arabia should also be monitored. This visit could clarify the direction of oil supply in an environment where oil production needs to increase to support countries reducing dependence on Russian commodities. The possibility of China’s re-lockdown should also be observed, as it could exacerbate supply chain issues for IT companies and increase oil price volatility due to economic slowdown.

It is beneficial to check these factors first before making decisions.