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Wall St Week Ahead-RPT-Earnings Rebound, Falling Bond Yield Helps Keep The Party Going For US Stocks.

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Wall St Week Ahead-RPT-Earnings Rebound, Falling Bond Yield Helps Keep The Party Going For US Stocks.

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NEW YORK – A spike in corporate earnings and the recent drop in bond yields are helping to moderate valuations of U.S. stocks, bolstering the case for equity ownership even as markets are close to highs and economic growth is expected to slow down.

The benchmark S&P 500 index is up more than 17% so far this year, galloping higher despite concerns about rising inflation and a projected drop in economic growth.

At the same time, however, stock valuations have declined since the beginning of the year. The S&P 500 price-to-earnings (P / E) ratio, a commonly used measure of market valuation, stands at 21.4 times earnings estimates for the next 12 months, according to Refinitiv Datastream. That is still well above its historical average of 15.4, but below January’s 22.7 level.

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Meanwhile, a rally in Treasury markets that has seen 10-year Treasury yields drop 50 basis points since late March as bond prices soared higher has also helped increase attractiveness. of the shares as an investment.

“I think the stock market is still the ideal place,” said Peter Tuz, president of Chase Investment Counsel in Charlottesville, Virginia. “Although valuations are high, fundamentals are good, most companies are having excellent quarters, and the outlook is quite good.”

The focus on valuations comes as investors assess various cross-currents that may influence markets in the coming months, including an expected slowdown in growth, a resurgence of COVID-19 cases in the US, and plans. of the Federal Reserve to undo the easy money policies they have had. helped support asset prices since the pandemic-fueled sell-off in March 2020.

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Investors will get a new picture of the economy next week with the monthly US jobs report and another batch of earnings reports from companies like Eli Lilly, CVS Health and General Motors.

Expectations of strong future earnings have been the key driver of the S&P 500’s earnings this year, according to a Credit Suisse analysis of the index’s annual performance that compared changes in stock valuations to changes in expected earnings.

Continued better-than-expected earnings are poised to keep valuations in check. Earnings are now expected to have risen 87.2% in the second quarter from forecasts of 65.4% in early July, according to Refinitive IBES.

“If you have an environment like the one we are in where companies are beating expectations by 18-20%, that means the P / E is lower than the official number,” said Jonathan Golub, chief equity strategist at Credit Suisse for the US. Credit Suisse projects the S&P 500 to end the year at 4,600, roughly 4% above Thursday’s close of 4,419.15.

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Google’s parent company Alphabet and Boeing have been among the biggest winners of the season. Investors were less happy with Thursday’s report from e-commerce giant Amazon, whose shares took a hit after it said sales growth would slow in the coming quarters.

Falling bond yields, with the 10-year yield recently falling to around 1.25%, has also boosted the relative attractiveness of equities.

The equity risk premium, a comparison of the return on earnings on stocks to the interest rate on bonds, is currently at a level that has historically corresponded to a 12-month average profit for the S&P 500 of 15.2%. , according to Wells Fargo Investment. Institutes.

Goldman Sachs said in a recent note that its S&P 500 year-end target of 4,300 is based on a 1.9% 10-year yield. A return of 1.6%, still more than 30 basis points above where yields currently lie, would raise Goldman’s fair value estimate for the S&P to 4,700 by year-end, keeping modeled growth and other factors constant. said the bank.

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However, some investors have been nervous about stock valuations, which have risen by many historical measures despite recent earnings bursts.

One valuation metric that flashes with warning signs is the cyclically adjusted price-earnings ratio, or CAPE ratio, which takes a longer-term view to adjust for turns in economic cycles. It has risen to its highest level in more than 20 years.

The increase in the CAPE index was a factor that Cresset Capital Management considered before modestly reducing its overall equity exposure earlier this year for its portfolios that have an investment horizon of at least 7 years, said the chief investment officer. from Cresset, Jack Ablin.

“Stock valuations are expensive, extremely expensive,” he said. “From that perspective, the market does not have a very attractive long-term future.”

(Reported by Lewis Krauskopf; edited by Ira Iosebashvili and Dan Grebler)

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