The Federal Reserve is expected to conduct aggressive monetary-policy tightening to combat surging inflation. Goldman Sachs said that's good news for the economy but bad for equity investors. "The prospect that Fed tightening to curtail inflation will trigger a recession has been a concern of investors," David Kostin, Goldman's head of U.S. equity strategy, said in a note. Goldman's financial conditions index has gained, or tightened, 138 basis points in 2022. "A tightening FCI typically involves lower stock prices, so a good outcome for the economy may be a poor one for investors." Prices that consumers pay for everyday items surged a whopping 8.5% in March from a year ago, the fastest gain since 1981. In the face of soaring prices, the Fed has begun raising interest rates and is expected to continue doing so through the remainder of the year and into 2023. Many started to fear that a potentially aggressive move from the Fed could cause an economic downturn just as the country rebounds from the pandemic. Goldman's economists assigned a 35% chance of a recession in the next two years. "The resumption of sustained Growth stock outperformance will require equity investors to gain confidence that the economy will slow but avoid recession, and that inflation will soften enough to reduce the need for further tightening," Kostin said. "Such an outcome is possible, but investors are skeptical the Fed can achieve both goals without causing a recession in 2023." The S & P 500 is in correction territory, down more than 10% from its record high, as inflation fears, geopolitical risks and recession worries weigh on risk sentiment. The tech-heavy Nasdaq Composite has declined more drastically, off about 20% from its recent high, as growth stocks are particularly sensitive to rising rates. Goldman is expecting the Fed to hike rates a total of 200 basis points this year. Traders are pricing in a 50-basis-point rate increase at next week's Fed meeting, according to CME Group data . The Wall Street firm said right now investors should prioritize stability rather than pursuing growth. "In the current angst-ridden equity investing environment, we believe Stability represents a more attractive attribute than either pure Growth or Value," Kostin said. Goldman has a "Stable Growth basket" that consists of the 50 Russell 1000 stocks with the most stable EBITDA growth during the past 10 years. The basket has outperformed the S & P 500 by 5 percentage points during the past six months, but Goldman believes it has more room to run.
Traders on the floor of the NYSE, April 14, 2022.
The Federal Reserve is expected to conduct aggressive monetary-policy tightening to combat surging inflation. Goldman Sachs said that's good news for the economy but bad for equity investors.