Welcome to RBC’s Markets in Motion podcast, recorded March 28, 2024. I’m Lori Calvasina, Head of US Equity Strategy at RBC Capital Markets. Please listen to the end of this podcast for important disclaimers. The three big things you need to know today: First, we’ve lifted our YE 2024 S&P 500 price target to 5,300, up from 5,150. The most constructive model in our tool kit indicates upside to ~5,400, which represents our bull case if our base case is too conservative. Second, we continue to see some conflicting cross currents for stocks. Among the five models that we use, our economic, valuation, and cross-asset work are sending the most constructive signals, while our sentiment and politics work are less enthusiastic. Third, we’ve lifted our 2024 S&P 500 EPS forecast to $237, up from $234, which remains slightly below the bottom-up consensus.
If you’d like to hear more, here’s another five minutes. Now, let’s jump into the details.
Starting with Takeaway #1: We are lifting Our YE 2024 S&P 500 Price Target to 5,300
As our regular readers are well aware, when it comes to our S&P 500 forecasts we are all about the math. As 1Q24 comes to an end, we’ve refreshed the five models we’ve been using to arrive at our YE 2024 price target. The median outcome of these five models is 5,291, which we round to 5,300 for an 11% gain vs. the December 2023 close. Our newly revised S&P 500 price target is a modest upgrade of the 5,150 forecast that we published in early January, which followed the 5,000 forecast that we published in November. We still see a range of forecasts in our models, from 5,075 to nearly 5,400, but it has tightened up and we are now seeing a bit more convergence in the models than we did before.
We consider our price target to be a signaling mechanism for our overall message on the potential direction of the US equity market from here. It’s a compass, not a GPS. The story we see in the data today is that the strong move observed in the S&P 500 so far this year has been deserved, and a rational case can be made for additional upside from here. But some of our work also suggests that gains may be tougher to come by from here and that the stock market needs a breather. Looking through to year-end, we feel a bit more neutral than we have over the last few months, but we also feel very far removed from the bearish camp. On balance, we see more upside than downside risks through year-end.
Moving on to Takeaway #2: The Most Constructive Signals Come from Our Economic, Valuation, and Cross-Asset Work, While Our Sentiment and Politics Work Are Less Enthusiastic
Our sentiment work has been making us uneasy. Our model based on AAII net bullishness is now producing the weakest forecast among our five target price models, though its signal is unchanged from our January update. As 2024 began, net bulls in the weekly AAII survey were slightly more than 1 standard deviation above the long-term average, suggesting that US equities had gotten a bit overbought. The S&P 500 tends to be flat on a 3-month forward basis from similar levels, with modest gains of ~6% on a 12-month forward basis. This has made a near-term pullback more likely in our view over the last few months, which has obviously not materialized. As we discussed in last week’s Pulse, the risks that this model will top out at 2 standard deviations (which we would see as consistent with a melt-up scenario) have grown.
We feel a bit better about things when we run through our economic work. The GDP model that we use in our price target work has seen the biggest shift over the past few months, going from sending a cautious signal on where the stock market is headed in 2024 back in January to a constructive one today. As 2024 began, consensus data as tracked by Bloomberg indicated that real GDP was expected to be 1.3% for 2024, in the middle of a range (0–2%) that’s typically accompanied by weak stock market returns. In our meetings, we describe the 0–2% range as economic purgatory, since investors tend to be chronically afraid that the economy is about to tip into recession when this occurs. The good news is that the consensus real GDP forecast has moved up to 2.1% as of late March. That’s important because 2–4% real GDP tends to be strong for stocks with a median annual gain of 11.8%. That math suggests the S&P 500 should be above 5,300 at year-end.
Meanwhile, our valuation model, which implies that the S&P 500 can arrive at a P/E of more than 22x by the end of 2024, continues to offer one of the more optimistic forecasts in our tool kit. Used in tandem with our revised EPS forecast of $237, this model anticipates that the S&P 500 will end 2024 at nearly 5,300 and is right in line with our new price target. As a reminder, this model uses average trailing 4Q P/E data back to the 1960s and consensus forecasts on inflation and interest rates to project a target trailing P/E for the S&P 500 at the end of the year. The story it tells, based on data and lessons from prior decades including the 1970s, is that moderating inflation and a little bit of interest rate relief can help to keep the trailing P/E north of 22x. We have fine-tuned this model a bit, removing GDP as an input. This doesn’t have a major impact on the output of the model, but keeping it focused on inflation and interest rates allows us to run cleaner stress tests as debates over the path of inflation, Fed policy, and interest rates in general persist.
One of the other models in our tool kit that also paints a rosier picture for the US equity market in the balance of the year is our earnings yield gap model. There’s no real change here since our last price target update in January. It reminds us that when the forward earnings yield and 10-year yield are near parity, as has been the case recently, stocks still tend to post healthy gains of nearly 13% on a 12-month forward basis.
On a related note, there’s enough cash sitting in money market funds that it feels like there’s room for both stocks and bonds to benefit as cash moves off the sidelines.
Our final price target model attempts to bake in the political backdrop to the US equity market outlook. Our election cycle test reminds us that the S&P 500’s full-year gains tend to be positive but below trend in presidential election years (about 7.5% on average), and we think that’s a reasonable way to bake in the US presidential election given the highly unusual circumstances around 2024’s contest, as long as we have a clear winner.
Typically, the stock market tends to sell off early in a presidential election year before rebounding in the middle months. Trends turn choppy again as the election grows near, with a rally taking hold after election day once the uncertainty is resolved.
An early-year pullback clearly has not materialized yet, but we will be interested to see how the equity market reacts to early signs of potentially shifting dynamics in the race for the White House. Biden has started to gain on Trump in betting markets, but so far, the US equity market seems to be looking through this.
Wrapping up with Takeaway #3: We Have Lifted Our 2024 S&P 500 EPS Forecast to $237 from $234
With all of the S&P 500 company results finally in for 4Q23 reporting season, we are also taking the opportunity to refresh our S&P 500 EPS forecast for 2024. As a reminder, our EPS forecast is based on an income statement for the S&P 500. We model revenue growth and interest expense (using consensus forecasts for key economic variables) and make assumptions on margins, buybacks, and tax. We think the market’s view of where economic fundamentals are heading, rather than any one economist’s or strategist’s view, is what ultimately drives stock market pricing.
A few key things to know here: First, our new $237 forecast for 2024 is still below the bottom-up consensus of $243. Second, we assume that margins will be flat in 2024 vs. 2023. This is an important difference relative to consensus, which is baking in some expansion, and is driven by our concern that cost pressures remain high for companies while pricing power is weakening. Third, our 2024 EPS forecast assumes that CPI will continue to moderate through year-end and that interest rate pressures will ease a tiny bit in the second half of the year. Fourth, we no longer have buybacks ramping up in 2024 in our model as was the case previously. We are changing this assumption after seeing that the share count of the S&P 500 actually grew a tiny bit in 4Q23 and appears to be on pace to do so again in 1Q24 based on preliminary March data. Overall, we think our forecast is telling us that bottom-up consensus forecasts may be a little overly optimistic. That’s something that tends to be the case at this point in the calendar year and doesn’t overly concern us.
That’s all for now. Thanks for listening. And be sure to reach out to your RBC representative with any questions.