US stocks are offering attractive opportunities in 2023, and there could be a possibility of a mega rally, indicates GAM Investments. According to the asset manager, the primary reason behind this is the emergence of artificial intelligence (AI).

Speaking about the possible issues for the investors, Julian Howard, Lead Investment Director, Multi-asset Class solution at GAM, highlights the broader inflation and interest rate backdrop. He also points out the stubborn core inflation in the US, eurozone, and UK that prompted central banks to adhere to tighter monetary policies.

Howard further explains that these factors have “made the rally in stocks feel vulnerable, with earnings yields offering little over and above risk-free rates, and valuations stretched on most measures.” 

GAM cautions that the valuations are currently trading at over 30x, significantly higher than the long-term average. “Serious investors remain understandably cautious in the face of a market driven by speculative sentiment and underpinned by uninspiring financial metrics,” informs the asset manager.

Howard then goes on to explain the gradual changes that can be seen from the beginning of May to August. He indicated that the rally has begun to broaden. The rally has shifted from the technology sector to the energy, industrials, consumer discretionary, and materials sectors. He added that the market has demonstrated “unexpected economic resilience in the face of the tighter monetary policy.”

According to the asset manager, the broader market rally has spurred optimism across all sectors. “This breadth is important because it is a reasonably reliable indicator of an equity rally’s viability.” GAM further elucidates that uneven progress exposes investors to one sector and makes them vulnerable to distinctive risks from a few sectors.

Besides broader-based market leadership, the lower cost of capital has also emerged as a potential tailwind. The asset manager indicates that after the unexpected global price spikes of 2022, US inflation has begun to cool off to just under 5% for June this year. He explains this phenomenon by saying, “If the inflation data continues to cool, then one or two more rate rises really may be sufficient to wrap up the current monetary policy cycle, potentially pushing down yields across the maturity spectrum and making stocks’ earnings yields relatively attractive again.”

While discussing the outlook for the US equities, GAM foresees a resilient US economy and an end to the monetary tightening cycle. Against the backdrop of the monetary tightening, “investors may need to start considering increased strategic engagement in stocks,” as per the asset manager.

Howard concludes by saying, “It is often said that markets are driven by sentiment in the short term and fundamentals in the long term. The next few months could be the moment when the two start to positively align.”

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