- Truist’s top market strategist just slashed his bullish rating on US stocks during a slump.
- Although market fundamentals seem stable, earnings expectations may be too high.
- Strategy chief Keith Lerner shared why he’s taking some risk off the table.
Last month, veteran investment chief Keith Lerner said stock-market dips were worth buying.
Six weeks later, Truist’s chief market strategist is singing a different tune. He just downgraded US equities for the first time in years and thinks investors should have more cash on hand.
“After being more on the positive side of the ledger, the risk-reward backdrop has shifted,” Lerner said in a recent interview. “I don’t think it’s catastrophic. I just think that we’re acknowledging that the risk-reward is more mixed now, relative to where it was before.”
Lerner’s decision to knock his rating on US stocks from attractive to neutral comes as an optimism-driven rally sputters. The S&P 500 reached record highs in mid-February but has since lost ground in four straight sessions as markets grapple with weak economic data, policy confusion, and uncomfortably high valuations. Walmart’s ghastly guidance didn’t help either.
Truist
Even still, economic fundamentals look solid, and Lerner said a recession is likely off the table. The main issue, in his view, is that investors’ expectations are out of whack.
“It’s not that things are falling apart,” Lerner said. “The concerning thing is that the expectations are high, and now we’re seeing some softness.”
Cracks are forming in lofty earnings estimates
Stocks may be a victim of their own success.
Earnings growth has defied analysts’ cautious estimates for years, so investors have come to expect beats. The market is now pricing in low-double-digit profit growth this year, and while Lerner’s 8% to 10% call is slightly more conservative, it still might be a palatable outcome.
Steadily rising profits in a healthy economy are, on paper, a blueprint for higher stock values. Add in excitement about Trump’s agenda, namely lower corporate taxes and deregulation, and it’s clear why investors spent much of the last few months scrambling to add equity exposure.
“There was some complacency,” Lerner said. “There wasn’t a lot of fear built into the market.”
However, this bullish case will only play out if earnings live up to the considerable hype — and Lerner believes that’s increasingly in question.
Forward earnings estimates, which had inspired optimism, have stalled in the last month or so, Lerner noted. And while analysts are known for setting the bar low, profit expectations haven’t hit a snag like this in half a year, which suggests that they’re less confident than usual.
Truist
An earnings hiccup might not be a major obstacle if stocks weren’t priced to perfection. But at 22x forward earnings, the S&P 500 has little room for error before it gets a valuation haircut.
“If you get a negative surprise, you’re more vulnerable again on a short-term basis,” Lerner said.
Tariffs, higher rates may slow down stocks
Besides flattening profit estimates, Lerner pointed out that US companies must also contend with policy uncertainty regarding interest rates and tariffs.
Trump’s unconventional governing style has everyone from trade partners to Wall Street on edge. No one knows for certain whether he’s bluffing or serious about import taxes — much less how high they’d be, when they’d go into effect, and for how long.
At the same time, the president is pushing for rate cuts, though Lerner said the Federal Reserve won’t comply unless there’s clarity on tariffs, and their impact on inflation and economic growth.
“The Fed is basically boxed in,” Lerner said. “They’re in a holding pattern because they’re waiting to see how this tariff stuff happens. They’re not going to cut rates unless the economy weakens, most likely. They’re going to be slower to react, so that’s less supportive, near term.”
Consumers seem to be growing restless in this higher-rate, higher-tariff backdrop. Case in point: Long-term inflation expectations just hit their highest level since 1995, Goldman Sachs economists recently noted, citing the University of Michigan’s latest consumer sentiment data.
Courtesy of Goldman Sachs; data from University of Michigan, Haver Analytics
“The longer that we are in a world where tariffs are a real possibility — from the perspective of consumers, from investors, from companies — the more risk that you do see a more sustained drift up in inflation expectations,” said Joseph Briggs, the co-lead of Goldman Sachs’ global economics team, in a recent interview.
Investors may want to take that survey data with a grain of salt, as Lerner said it may be “polluted” by political polarization. Even still, he’s also closely eyeing price growth.
“Consumers are at the high point of what they’re willing to pay for a lot of items,” Lerner said, adding that record profit margins may suffer as a result.
How to invest as market risk rises
Although US stocks have gotten less appealing, Lerner still thinks they’re a relatively strong bet.
His favorite investment ideas are still domestic large caps, namely companies in the technology, communication services, and financials sectors. Truist also has an attractive rating on mid caps.
Conversely, Lerner thinks investors should now steer clear of small caps due to their shakier earnings, and elevated interest rates. He’s also skeptical of international stocks, even though they’ve been among the best performers across global markets so far this year.
