Citi Analysts Warn of Red Flag in Stocks, Same Signal That Preceded Major Equities Crashes

A person on the floor of the New York Stock Exchange (NYSE) watches TV screens on July 27, 2022. Timothy A. Clary/AFP via Getty Images

Analysts at Citigroup have signaled a significant red flag in the global stock market that has previously foreshadowed major crashes.

“Our index of global sell-side stock calls is back at peak bullishness, so triggering a red flag in our Bear Market Checklist. Analysts are most bullish in the U.S. and, increasingly, EM [emerging markets]. They are less bullish in Europe and Japan, but not by much. There are few signs they see a global recession coming,” the strategists said in a note on Twitter.

The peak bullishness in the index is at a level reached in 2000 and 2007, after which global equities fell by 50 percent. This is the reason Citi has included this red flag in their Bear Market Checklist, the analysts said.

However, Citi also admitted that a sell signal flagged by the recommendation index back in 2012 ended up being false, with markets changing very little in the following 12 months.

The index’s peak bullishness comes as the S&P 500 Index has been rising since mid-June, after falling in the first half of the year. Despite the recovery, the index is more than 13 percent lower year to date as of Aug. 9.

In addition to being bullish on the United States and emerging markets, Citi analysts are also “still bullish” on cyclical sectors. In the past 18 months, for example, net “buy” recommendations in material and consumer discretionary stocks have risen the most. Recommendations for stocks from sectors such as communication services, IT, and utilities rose the least.

But strategists noted that sector-wise recommendations have not been as successful when compared to region-wise recommendations.

Stock Market Fall

Despite the stock market rebounding in June, Morgan Stanley’s Michael J. Wilson is expecting bad times for the market. Though he believes inflation has peaked and will probably fall faster than expectations, this is still a challenge for the stock market because the situation will negatively affect company earnings.

“The best part of the rally is over,” Wilson said in a note, according to Bloomberg, while adding that he expects corporate profit margins to contract in 2023 due to cost pressures. Wilson had earlier correctly predicted the sell-off seen this year.

Worries about the health of American businesses were highlighted in a recent S&P Global Market Intelligence report that said that the chances of defaults in several business sectors rose in the second quarter. Default risks rose the highest in the health care industry, followed by communication services, consumer discretionary, IT, and consumer staples.

Meanwhile, the U.S. gross domestic product contracted by 0.9 percent in the second quarter of the year, following a decline in the first quarter, which some see as a sign of a recession.