Stocks are vulnerable to a near-term pullback as the market overestimates a 2021 recovery, CFRA says

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A trader works on the floor at the New York Stock Exchange (NYSE) in New York, U.S., February 28, 2020.

  • Investors should brace for a near-term pullback in the first quarter of 2021, according to CFRA’s Sam Stovall. 
  • Domestic equity markets appear to us to have over-discounted a second-half 2021 economic and EPS recovery…and as a result may be vulnerable to a Q1 pullback,” the chief investment strategist said in a note to clients on Wednesday.
  • Stovall also sees the S&P 500 reaching 4080 by the end of 2021, a 9.5% upside from current levels.
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Investors should brace for a near-term pullback in the first quarter of 2021, according to CFRA’s Sam Stovall. 

Positive vaccine news has left many investors hopeful that the economy will reopen and recover during the summer of 2021. Stovall explained that the market now is showing signs that investors are overestimating a recovery in the economy and earnings in the second half of 2021. 

“Domestic equity markets appear to us to have over-discounted a second-half 2021 economic and EPS recovery…and as a result may be vulnerable to a Q1 pullback,” the chief investment strategist said in a note to clients on Wednesday. 

Read more: JPMorgan unveils its 50 ‘most compelling’ stock picks to buy for 2021 – and details why each one will be a top performer

Stovall noted that the Russell 2000 is currently more than 30% above its 200-day moving average, and the 12-month return differential for the S&P 500 growth-value indices remains at a level not seen since December 1999, shortly before the “Dotcom” bubble burst. 

However, the chief strategist sees the S&P 500 gaining 9.5% in 2021. He reiterated his 12-month price target for the benchmark index of 4080, a sign that 2021 will be a positive year for stocks.

Stovall recommends investors stay overweight consumer discretionary stocks, health care, industrials, and materials. He recommends investors are underweight utilities, real estate, and consumer staples.

Read more: Wall Street’s biggest firms are warning that these 7 things could crash the stock market’s party in 2021

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Why the market’s lowest-quality stocks are embarking upon a rally that should extend for months, according to one Wall Street strategist

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  • As the stock market continues to cross its fingers that a stimulus package is near, investors are more willing to invest in lower quality stocks, according to CFRA’s Sam Stovall.
  • “Historically, investors’ rotation into low quality stocks has anecdotally indicated an improvement in confidence that the economy will recover, encouraging an investment in companies with questionable financials that may have been priced to go out of business but now might not,” said the chief investment strategist.
  • Stovall highlighted stocks such as Salesforce, Wynn Resorts, and Charter Communications that rank low on quality but have potential for a strong upside, according to CFRA research. 
  • Visit Business Insider’s homepage for more stories.

As the stock market continues to hope that a deal on a new stimulus is near, investors are showing more willingness to invest in lower quality stocks, according to CFRA’s Sam Stovall.

The chief investment strategist wrote in a Monday note that low quality stocks are set to rally for the next few months.

“Historically, investors’ rotation into low quality stocks has anecdotally indicated an improvement in confidence that the economy will recover, encouraging an investment in companies with questionable financials that may have been priced to go out of business but now might not,” Stovall said. “These companies therefore offer the greatest upside price potential.”

Read more:Goldman Sachs says buy these 19 beaten-down stocks on its ‘holiday shopping list’ that are poised to break out in the 1st quarter of 2021

Stovall makes the case that there is empirical evidence that this assumption is correct, and also highlights several “low quality” stocks within the S&P 500-where quality is based on the consistency of the company’s ability to raise earnings and dividends over the past 10 years-that have “strong-buy” ratings from CFRA. The list includes names such as Salesforce, Wynn Resorts, Laboratory Corporation of America Holdings, and Charter Communications. 

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