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Wall Street is rethinking its 2019 investment strategy

Heidi Chung

Three of Wall Street’s top strategists are scrambling to get investors to overhaul their 2019 investment strategies.

After two years of recommending stocks with strong balance sheets, Goldman Sachs is changing its tune. David Kostin, Goldman Sachs strategist, explained that a more dovish Federal Reserve, extended valuations and stabilizing global growth were key drivers in his decision to close his recommendation for strong balance sheet stocks. Kostin also noted that strong balance sheet stocks have outperformed their weaker counterparts by 25% since the Fed started steadily hiking short-term interest rates in 2016.

However, now “the risk-reward has recently become less favorable,” Kostin argued in a note on Friday. “The Fed’s dovish posture, the magnitude and duration of recent strong balance sheet outperformance, and relative valuations portend lower near-term prospective returns.”

After hiking interest rates four times in 2018, the Fed appears to be taking a pause for at the least the first half of 2019, and that could be good news for weak balance sheet stocks. Weak balance sheet stocks generally perform better in a lower interest rate environment and when the economy is strong.

“We no longer have conviction that the relative outperformance of strong balance sheet stocks will continue in the near term,” Kostin said.

In addition, Wells Fargo is recommending investors rotate out of growth stocks and into value stocks. “We believe the positive turn for value factors, which we observed over the first few weeks of the year, has legs,” Chris Harvey, Wells Fargo strategist said in a note to clients February 5.

For the past couple years, growth stocks have largely outperformed value stocks, but Harvey argued that the steep market selloff at the end of 2018 coupled with a dovish Fed has set the stage for value stocks’ comeback. “Over the next 6-12 months, we expect solid-to-strong value factor performance,” Harvey said. “Cheap stocks have gotten cheaper on a relative and absolute basis.”

Finally, it is now time to beef up risk and unwind hedges, according to J.P. Morgan.

JPMorgan strategist Nikolaos Panigirtzoglou, said that a more accommodative Fed has created a favorable environment for investors to take on more risk and continue betting on equities over bonds. “In our opinion, this decisive dovish shift, to the extent it is sustained, is removing some of the headwinds that caused the 2018 market rout and raises the prospect of 2019 being an asset reflation year,” Panigirtzoglou said in a note on February 6.

Furthermore, Panigirtzoglou remained rather optimistic in regard to China and U.S.-China trade relations. “The latest round of PMIs showed signs of stabilization in Chinese activity, and US-China trade negotiations are showing some signs of progress, reducing the risk of an escalation,” he wrote. Thus Panigirtzoglou recommended owning a basket of China/trade sensitive U.S. equities and shifting commodities allocation from gold to industrial metals.

“This dynamic is not only related to a more optimistic view on U.S.-China trade negotiations, but also the possibility that the lagged effects from previous stimulus combined with new stimulus measures will make China look better than last year from a stimulus traction point of view,” Panigirtzoglou explained.

Heidi Chung is a reporter at Yahoo Finance. Follow her on Twitter: @heidi_chung.

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