In an environment of high valuations, one of two “catalysts” could cause a market correction.
That’s according to Brian Arcese, portfolio manager of the Singapore-based Foord Asset Management, who said markets have been “expensive for quite a while” — the S&P 500 is up about 23% in the year to date. It has a price-to-earnings ratio above 27, and some have described it as expensive by almost every measure.
“We do think that a correction would be healthy, but you will need some type of catalyst for that correction to take place. I think it could be one of two things,” he told CNBC’s “Squawk Box Asia” this week.
“We are seeing economic growth in the U.S. slow. [It is] still quite healthy, but it is slow, right? That can be a catalyst,” he said. U.S. GDP grew less than expected in the third quarter, according to data published Oct. 30.
“If that continues to slow a bit more, if we were to see inflation tick up again, that could be a catalyst,” Arcese said. U.S. inflation rose to 2.6% in October, in line with expectations, per figures published Nov. 13.
A ‘catalyst for correction’
Slower earnings growth could also cause a correction, Arcese said, in an environment of high expectations.
“If we look at corporate earnings expectations for next year — even if you exclude IT and communication services where growth is exceptionally high — excluding those earnings, growth is expected to be 10 to 12% which is relatively high compared to history,” he said.
Goldman Sachs‘s equity outlook predicted that earnings will grow 11% in 2025 per a note last week.
“If you have high expectations coupled with high valuations, then if you do see that earnings growth start to slow, or expectations start to roll off, that could be a catalyst for correction,” Arcese said.
Factors including U.S. GDP growth and earnings growth as well as falling inflation and interest rates make for a relatively rare combination, Arcese said. “Those factors together actually don’t happen that often, right, all at the same time?” he said.
“That is quite constructive for equities, which is obviously what we’re seeing, and the reason that they continue to kind of make higher highs. We do think that a correction would be healthy,” Arcese said.
Opportunity in utilities
One sector where growth is not priced in is utilities, according to Arcese. “They’re more expensive relative to where they were before, but … they’re still less expensive than the market,” he said, naming SSE and Edison as stocks Foord Asset Management owns.
The increase in data centers and growth of artificial intelligence requires more electricity, meaning growth is “coming back,” Arcese said.
“At the same time, regulated utilities need to invest a significant amount of capital into the grid for transmission and distribution, all of which they earn a return on,” he said.
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