In the last quarter of 2023, companies experienced an advance in their profits, recording growth of 4.36% and 1.7% year-on-year in nominal and real terms, respectively. Thus, profits grew year-on-year for two consecutive quarters.
October-December of last year turned out to be a favorable period for S&P 500 companies, where 76% of them reported results above expectations, exceeding their historical average of 73% by 3 percentage points. During this period, companies’ earnings exceeded expectations by 6.3%, compared to analysts’ projections.
The profitability of companies, which had shown a year-on-year contraction in real terms since the third quarter of 2022, reversed this trend in the third quarter of 2023, remaining this way until the end of that year. Earnings remained stable in nominal terms over the past year, in line with forecasts made a year earlier.
The profitability of companies in the United States is expected to grow by 10% in nominal terms in the next 12 months, coinciding with an upward adjustment in GDP growth expectations in the US, which has been supported by positive revisions to the Federal Reserve’s growth forecasts at its last meeting in March. In this context, the S&P 500 has reacted positively, registering an increase of almost 30% in the last 12 months.
Year-over-year earnings growth is expected to realign at rates more consistent with its long-term average, projected to rise close to 7% in the second and third quarters of the year, according to analyst forecasts compiled by Bloomberg. However, index-level forecasts indicate a more modest 5.3% growth in earnings, while the index value is projected to reach 5,100 points by the end of 2024, down from 5,241 currently. These projections could be adjusted upwards if growth expectations continue to improve, as has happened recently.
Despite expected interest rate cuts from the FED in 2024, S&P 500 earnings per share are expected to grow 5%. However, despite these optimistic forecasts, the “earning yield” of the S&P 500 would remain at 4.36%, a low level compared to fixed income returns, which indicates a low compensation for the risk assumed in variable income.
Price revaluation has put pressure on valuations since Q4 23, placing eight of the eleven S&P 500 sectors with a price-to-earnings ratio above their long-term average, reinforcing the trend seen in previous quarters. Although many investors look for stocks for their potential capital gains and not for short-term profit expectations, especially in dynamic sectors such as technology, the expected return, in historical terms, is particularly low, even negative for technology and discretionary consumption.
The resistance of S&P 500 companies to the Fed’s monetary tightening
S&P 500 companies have demonstrated notable resilience throughout the Fed’s tightening cycle, benefiting from solid growth in the U.S. economy. The recent upward revision of the Fed’s growth forecasts and monetary policy rates indicates the possibility of rate cuts in 2024, which could provide an additional boost to stocks through a tightening in company valuations and an easing of financial conditions, benefiting riskier assets. However, the expectation of a more moderate rate cut by 2025 suggests the possibility of a steeper economic slowdown in the coming year.
After the significant rally in stocks since last November, especially in sectors linked to technology, We consider it prudent to address exposure to the S&P 500 through the equal weight index (SPW), which could support stocks throughout 2024. Given the uneven performance of other sectors and the relatively low risk compensation, particularly in the technology sector, it seems prudent to increase, or even balance, exposure in other sectors. In this sense, the SPW reduces the exposure of the technology sector, giving greater importance to sectors such as industrial and banking, which have shown strength in the last quarter of 2023.
For those who want to take more risk, emerging markets could adapt if the good dynamics in the US extend. For these markets it seems essential to focus on factors of minimum volatility and quality. Regionally, our preference is for Latin America. However, the Chinese government’s recent commitment to ensure a 5% growth target could provide some support to China’s assets (with some impact on the rest of the emerging economies, mainly emerging Asia). The latter would be more tactical and for investors who can bear this risk.
Head Wealth Management Research at Balanz
Source: Ambito
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