Nicola Wealth addresses the 'impressive yet unsettling' performance of the index
In February, global stock markets continued their upward trajectory, with developed and emerging market stocks posting gains. However, in its February review, Nicola Wealth raises concerns about the concentration of the S&P 500.
The index surged 5.3 percent in February, elevating its year-to-date gain to 7.1 percent. Strategas Research has linked such a solid start to positive prospects for the remainder of the year, marking this as the 13th best beginning for US stocks since 1950.
The market's momentum is underscored by the S&P 500's avoidance of significant daily drops. It has been experiencing its longest bull streak since 1971. This performance has led to the market surpassing year-end targets set by strategists for 2024, prompting many to expect upward adjustments in forecasts.
Despite these gains, the question of how much further stocks can rise persists, the Nicola report says. While hailing the performance of the Magnificent 7 – Amazon, Alphabet, Apple, Meta Platforms, Microsoft, Nvidia, and Tesla – which experienced growth of 300% it suggests that, when considering the P/E to growth perspective (PEG ratio), they may not be as expensive as they appear when adjusted for their growth rates.
“However, the crucial question remains: how long can they sustain such high growth rates? Bank of America predicts that the earnings growth rate for both the Magnificent 7 and the rest of the S&P 500 will equalize by the end of the year,” Nicola says.
“According to JP Morgan, year-over-year earnings for the Magnificent 7 are expected to be 25% in 2024 and 15% in 2025, compared to 8% growth for the rest of the S&P 500 in 2024 and 13% in 2025. It's important to note that eventually, the law of large numbers begins to affect every growth stock, along with adjustments in valuation.”
Investors, therefore, face a conundrum: should they feel upbeat or cautious about this market rally? On the one hand, strong returns are appealing, but on the other hand, the market presents several challenges.
It relies heavily on a handful of dominant AI-driven companies, fueled by expectations of lower interest rates, and is not cheap. Yet, it continues to ascend. “It's impressive, yet unsettling at the same time,” Nicola notes.
The sustainability of growth rates is questionable, but that is a concern for another day. Valuation, typically a reliable predictor of long-term performance, often plays a minimal role in the short term.
“While there are concerns about the economy and interest rates in the long term, for now, things are looking pretty good. There are some cracks and uncertainties, sure, and maybe it will all end poorly. But not this month, and perhaps not before President Biden secures re-election.”
