Citi just lowered its S&P 500 price target. Here’s how likely it finds a severe recession, and what it expects from corporate earnings

Besides the price action, what has changed in the last six weeks? First, say strategists led by Scott Chronert, is that there’s an increasingly persistent Fed focus on raising interest rates until there are signs inflation will slide back to 2%. That, the Citi team says, creates a growing risk the Fed will overshoot on rates, generating unintended consequences. They now see the probability of a severe recession at 20%, versus 5% previously.

The second is that the recent dollar
DXY,
+0.18%
strength also supports a higher severe recession probability. “Importantly, while we are aware that a stronger dollar will have a negative translation impact on U.S. corporate earnings, that does not overly concern us. Rather, it is the potential impact of a structurally higher for longer USD that may weigh on many business models, as global growth comes under further pressure,” they say.

And the third change is actually a more positive one. “We have stress tested bottom-up earnings growth expectations according to two inputs: sector level macro influences, and Citi analyst earnings expectations for heavily weighted stocks in several sectors. In combination. We conclude that ’23 earnings growth expectations remain too aggressive. But, importantly, we also suspect that S&P 500 index level earnings may prove more resilient to mild recession conditions than historical compares would suggest.”

Citi expects S&P 500 companies to record earnings per share of $215 next year, which implies a trailing price-to-earnings ratio of 18.1.