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STOCKS PRICING IN RECESSION RISK, NOT STAGFLATION – HSBC

Equity markets are pricing a recessionary outcome rather than stagflation in the wake of the U.S.-Israeli strikes on Iran, despite surging oil prices and growing fears of a supply-driven inflation shock, according to HSBC.

Alastair Pinder, head of EM and global equity strategist, says that the bank’s regime models show equity markets now assign a 35% probability to recession, up sharply from 10% just two weeks ago, while the implied probability of stagflation has barely moved, holding at 8%.

A 9% underperformance of cyclical stocks versus defensives since mid-February is also consistent with that read.

HSBC argues investors should favor cyclicals that can hold up under a stagflationary scenario, highlighting metals and mining, industrials and banks, as discussion about stagflation increases.

Global equities have fallen 5% since the strikes began on February 28, and Iran's effective closure of the Strait of Hormuz has created what Pinder describes as the most significant physical disruption in the oil market's history.

European markets including Germany, France, the Netherlands and Belgium face the greatest headwinds from sustained high oil prices, while energy exporters Norway, Saudi Arabia, the UK, Canada and Brazil should prove more resilient.

Meanwhile, HSBC says that not all of the equity damage looks warranted. South Korea, South Africa and Indonesia appear oversold by 5% to 10% relative to macro fundamentals, with valuations looking increasingly attractive.

Korea and South Africa remain favored plays in emerging equities alongside materials, industrials and financials.

(Karen Brettell)

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