(Benzinga) Dubravko Lakos, chief U.S. equity strategist and global head of quantitative research at JPMorgan Chase & Co, reportedly said the risk of unknown unknowns is the highest since the global financial crisis at a time when there has been a sharp increase in the cost of capital.
“Today, what you are sort of seeing with the regional banks, what you are sort of seeing on the crypto side, that’s just one of the potential side-effects or casualties that we are at the risk of seeing,” he told CNBC.
“We don’t know what we are in for. So, [the] bottom line to me is what’s happening today is not at all surprising because we are in a very restrictive environment and so that’s the tricky part. Valuation by itself on the equity side is far from attractive. It’s unattractive,” he said.
U.S. markets ended in the red on Thursday dragged by a plunge in bank stocks following SVB Financial Group’s funding crisis. Shares of the company closed 60.41% lower on Thursday and lost another 25.04% in extended trading after it announced the completion of the sale of $21 billion of securities which, it said, will result in an after-tax loss of $1.8 billion in Q1 2023.
The company also announced a plan to raise over $2 billion to stem losses from the bond sale. The SPDR S&P 500 ETF Trust SPY closed 1.84% lower while the Invesco QQQ Trust Series 1 QQQ.
When asked if he worries the unfolding situation is a “canary in the coal mine” moment, the JP Morgan said that seems to be the case and pointed out that it’s not just the regionals but delinquencies are beginning to surface in certain parts of the consumer debt market as well.
“You are definitely seeing signs that are pointing in the wrong direction and so if inflation, interest rates and cost of capital don’t come down — and right now the trajectory seems to suggest they won’t — things are getting uglier,” he said.
Interest Burden
Lakos also pointed out that many people initially focus on the S&P and large caps where balance sheets for the most part are in decent shape but when it comes to small and mid-caps, 30-45% of outstanding debt are floating.
“That’s when you start seeing sensitivities really pick up if rates and cost of capital stay elevated. That’s definitely one area that we should be paying close attention to,” the JP Morgan analyst said.
Lakos highlighted the fact that a lot of small-cap companies have been talking about the interest expense burden rising and pressuring their margins. “I don’t think that’s getting enough attention,” he said.
The market strategist also asserted he would prefer high-quality names in the current environment. “I would be very much leaning towards high quality, good balance sheets, profitable businesses — businesses that can withstand these kinds of shocks and elevated cost of capital,” he said.
