[2023 Stock Market Outlook] From High Inflation and High Interest Rates to 'Economic Recession'... Suppressed Lows

Global Economy: L-Shaped Recovery to End Next Year... Variable 'Accelerated Recession'

[Asia Economy Reporter Lee Seon-ae] The outlook for the stock market in 2023, when the economic recession is expected to fully materialize, is not bright. Concerns abound not only for the domestic market (Gukjang) but also for the U.S. market (Mijang), the most favored overseas market among individual investors. The stock market, which has been subdued in the so-called era of three highs (high inflation, high interest rates, and high exchange rates), is widely expected to be crushed by the most critical accelerating recession variable once the new year begins. Experts unanimously agree that since the focus is shifting from inflation and interest rates to recession, and from valuation to earnings, investment strategies should be devised to prepare for the earnings decline cycle.

The global economy in 2023 is expected to experience a full-fledged inflation-induced recession. This is the visible effect of aggressive monetary tightening measures taken in response to the rapid price increases triggered by global supply-demand imbalances after COVID-19. Geopolitical risk factors such as potential policy changes in China and ongoing conflicts between Russia and Ukraine also contribute to the economic downturn. Jung Yeon-woo, Head of Research Center at Daishin Securities, said, "The global economy entered a recession phase at the end of 2022 and is expected to rebound from the second quarter of 2023," but added, "However, it will likely remain a sluggish L-shaped recovery until the end of next year."

6 out of 10 KOSPI Stocks Show Red Signals

An analysis of forecasts from 17 securities firms regarding the KOSPI index for next year shows an average range of 2103 to 2679. Compared to the current KOSPI fluctuating around the 2400 level, this suggests that the index may rise or fall by about 10% up or down next year.

The biggest factor influencing the bleak market outlook is the recession. Professor Kim Young-ik of Sogang University Graduate School of Economics said, "The stock market has already priced in the yet-to-occur declines in inflation and interest rates, so the most important remaining variable for the 2023 stock market is the impending recession." He added, "If the negative factor of declining exports, which is crucial for the Korean economy, is reflected in the stock market, a sharper correction is expected in the first quarter of next year."

The estimated net profit for KOSPI in 2023 has been revised downward by 23% compared to the end of June. The current net profit forecast for KOSPI in 2022 is 156 trillion won, and next year is expected to be 155 trillion won. Except for the 31% downward revision of the 2009 net profit estimate from June to December during the global financial crisis in 2008, this is the largest downward adjustment.

Lee Jae-man, a researcher at Hana Securities, predicted, "The forecasted gross profit margin for KOSPI in 2022 is 22%, but it is expected to fall to the 17% range in 2023." Lee Kyung-min, a researcher at Daishin Securities, pointed out, "Korea's exports in November decreased by 14% year-on-year, and domestic and international economic indicators are showing negative growth," suggesting the possibility of further downward revisions in net profit estimates.

According to financial information provider FnGuide's "2023 KOSPI Corporate Earnings Estimates," 62.7% of KOSPI stocks have had their earnings consensus downgraded compared to three months ago, while 37.3% have been upgraded. This means that 6 out of 10 blue-chip companies have worsened earnings outlooks.

Most securities firms' forecasts are divided into two camps: "lower in the first half, higher in the second half" and "sideways trading range," with the first half expected to be a turning point. Many predict that the market will form a bottom in the first half and then follow an upward trajectory as the economy slightly recovers from the recession in the second half. The analysis suggests that the shock from monetary tightening will affect the market until the first half, followed by a rise due to the end of the tightening cycle and corporate earnings recovery in the second half.

Byun Jun-ho, a researcher at IBK Investment & Securities, analyzed, "Considering that the average time from export turning negative to hitting bottom was 8 to 9 months, the bottom is expected in the second quarter of next year after entering negative territory in the fourth quarter. Since the market bottom occurred around the time of the export growth rate bottom, it is highly likely that the stock market will bottom out in the first half of next year."

Kim Sung-no, a researcher at BNK Investment & Securities, said, "There is a high possibility of a temporary recession due to high inflation until the first half of next year, but as consumer prices slow down by the second quarter, expectations for economic recovery in the second half will be reflected." He added, "If the recession prolongs, the stock market is likely to continue its weakness in 2023, but if the recession is short-lived and the economy enters recovery in the second half, the market will enter a rising phase."

Lee Young-won, a researcher at Heungkuk Securities, said, "The domestic stock market in 2022 was driven by global inflation centered on the U.S. and the central banks' interest rate hikes in response, which led to valuation adjustments due to policy burdens." He forecasted, "In 2023, earnings forecast downgrades will accelerate in both Korean and U.S. markets, marking a bottom in the earnings decline cycle by the first half." He added, "The key is whether recovery occurs in the second half. Considering the current situation is similar to the earnings adjustment magnitude in 2019, expectations for a turnaround in earnings forecasts remain valid."

On the other hand, some predict a sideways trading range throughout the year. Heo Jae-hwan, a researcher at Eugene Investment & Securities, said, "Operating profits of domestic companies are expected to decrease by 10% compared to this year," and predicted, "The stock market will show a pattern closer to sideways fluctuations rather than a trend rebound."

Amid advice to devise investment strategies considering earnings, secondary batteries, which are expected to benefit from growth in the semiconductor and electric vehicle markets projected to improve in the second half of next year, were identified as promising sectors. Additionally, dividend stocks, which can somewhat defend against stock price declines considering recession concerns, emerged as attractive picks.

U.S. Market 'Undershooting'

The U.S. stock market, which accounts for over 90% of individual investors' overseas stock investments, is expected to show even more uncertainty next year. With the Federal Reserve's tightening policy continuing, the impact of recession variables is expected to be significant. Wall Street experts increasingly voice that if the recession accelerates, the market bottom will need to be set even lower.

Mike Wilson, Chief Strategist at Morgan Stanley, forecasted that as corporate earnings slow, the Standard & Poor's 500 (S&P 500) will form a bottom between 3000 and 3300 in the first quarter of next year. Considering it closed at 4080.11 points on November 30, this implies a potential decline of up to about 26%. Wilson said, "Corporate operating profit forecasts continue to be cut due to the recession, and earnings forecast declines are expected to stabilize only after the market hits bottom." He added, "If Morgan Stanley's corporate earnings forecasts are correct, the bottom could fall even further."

David Folkerts-Landau, Senior Economist at Deutsche Bank, also recently predicted in a report that the U.S. stock market will fall by 25% due to recession effects by mid-next year. He expects the S&P 500 to rise to around 4500 in the first quarter, drop 25% in the third quarter, and then recover to 4500 by year-end, forming a V-shaped curve.

Marco Kolanovic, Chief Strategist at JP Morgan, also foresaw the market potentially breaking below its bottom again. He expects that the high interest rate environment will continue for some time, and the recession will impact both corporate earnings and the stock market.

According to Daishin Securities, the S&P 500 index decline during recessions is categorized as ▲temporary economic shock -20%, ▲deepening real economy shock -35%, and ▲financial system crisis -50%. However, both Wall Street and domestic securities firms recommend responding with phased buying during the bottom phase. Center Head Jung said, "Considering the past recession period S&P 500 corporate earnings decline (-20%) and valuation by interest rate level (PER 19.3x), the undervalued range is around S&P 500 3200 points." He advised, "Buying is possible below this level, but depending on inflation, monetary policy, and economic conditions, there is a possibility of undershooting (further decline), so phased buying to utilize volatility is recommended."

Lee Jung-yeon, a researcher at Meritz Securities, said, "Since July, the U.S. 12-month forward earnings per share (EPS) has been declining, and high real interest rates and inflation levels will negatively affect consumer spending capacity next year." He added, "As U.S. corporate earnings are expected to be weak, investing in sectors that can benefit from government policies rather than consumer-related sectors is promising."