Tepper founded Appaloosa Management in 1993 after honing his skills as a credit analyst at Goldman Sachs, and has been known to make risky bets when others are afraid. Appaloosa famously made $7 billion gobbling up bank stocks shot down in 2009 after the Great Financial Crisis.
But on Thursday, Tepper – who said he still considers himself “an optimist” – revealed he’s betting against the stock market. The hedge funder said central banks will continue to hike interest rates to fight inflation, and that’s bad news for stock prices.
“So I’d probably say I’m leaning into equity markets,” he said he told CNBC, referring to short selling. “Because I think the up/down doesn’t make sense to me when I have so many central banks telling me what they’re going to do.”
Many central banks around the world have aggressively increased interest rates in 2022 in hopes of taming global inflation, which has risen from 3.2% at the start of 2020 to 8.8% today, according to the International Monetary Fund.
In the US, the Federal Reserve raised interest rates seven times this year, equal to a total jump of 4.25%, the highest in a year since 1980.
Tepper said that despite the chorus of critics arguing that central banks should slow or halt their rate hikes, he believes officials will continue to focus on fighting inflation.
“You have to believe it,” he said. “I think they’re concerned about that inflation rate that’s going to be stubbornly 3.5%, 3.75%, 4%.”
A number of leading minds on Wall Street have expressed concern that inflation may not come down to central banks’ 2% targets next year. Mohamed El-Erian, president of Queens’ College at the University of Cambridge, said last month that inflation could rise “gluedto an uncomfortably high number due to rising wages, supply chain issues and a “shift in globalization”.
Against this backdrop of rising interest rates, Tepper questioned whether the S&P 500 is trading at an earnings multiple that makes sense.
Earnings multiples, or price-to-earnings ratios, are a way for investors to evaluate stocks, or in this case, an index like the S&P 500, based on corporate earnings. And because rising interest rates can weigh on earnings, periods with higher rates tend to have lower earnings multiples for stocks.
“Why are we still putting these multiples as high as when I had rates of 1%? I have to put in multiples that are realistic for the market,” Tepper said on Thursday.
Today, the S&P 500 is trading around 17.8 times gains to 3,800, but Tepper noted that if that figure drops even slightly to 16-fold in the next year, the index could drop to 3,600.
The market will have to decide what the correct earnings multiple should be for this new economic era, but if history is any guide, the situation could get even worse.
But Tepper pointed out that in 2010 the S&P 500 was trading at about 12 times earnings when interest rates were close to zero after the Great Financial Crisis of 2008. So, with today’s interest rates, there is a possibility that the current multiple of the index will fall sharply.
“So that’s the question of the stock market right now. What should the multiple be?” Tepper said.
And with the Federal Reserve continuing to hike rates, stocks face yet another risk.
“They [the Federal Reserve] I can’t say, but maybe there will be a small recession of some kind,” Tepper said.