Economy

The S&P500 party is just getting started

We have all been invited to a function, party, wedding or braai that we just didn’t look forward to, only to be surprised with a very pleasant event. Before you knew it, you were socialising like pro, and by the time midnight struck, you were the one proudly showing off your best dance moves to the sound of “Gangnam Style” playing in the background. Your initial pessimism was replaced by bubbling positivity.

Shares have a tendency to react very positively following better-than-expected results (earnings growth), but also to react negatively when reported results are worse than expected. In times of great negativity, it may influence investor sentiment to such an extent, that it can cause a total collapse, which is what happened in 2008.At the beginning of 2019, investors were very sceptical of stock reviews for the year to come, following the fact that the S&P500 Index lost 14% of its value between the end of September 2018 and 31 December 2018. But the party quickly turned to fun with the same index now trading 23% higher in US Dollar terms (as at 28 October 2019) for 2019 so far. The fact is that forecasts for this year definitely wasn’t as positive as the actual market performed up to this point.

It doesn’t matter if companies’ results are better compared the prior reporting period. If it doesn’t meet expectations, it can still cause the share price to drop dramatically, just because the party wasn’t exactly what investors expected. It is clear, therefore, that consensus forecasts are being watched very closely and that it plays a major role in short term market volatility.

In quite a few of my previous columns, I have mentioned that these experts are by no means fortune tellers. While undoubtedly there are analysts whose forecasts are incredibly accurate, there will always be a few who miss the mark by a mile. Some of the reasons why analysts end up making erroneous forecasts include:

  1. The fact that it is incredibly difficult to make earnings forecasts. There are so many variables to consider, that they can’t even count on expecting the unexpected.

  1. Analysts’ forecasts have a tendency to move closer together as time passes. The problem with this is that the proverbial herd isn’t always right.

  1. Over-optimism.

  1. The art of softening the blow when it comes to bad news is one that many companies have mastered through well-planned press conferences and other types of meetings.

If we take a look at things as they are now, roughly 70% (339 of the 500 listed companies) of S&P500 companies have already reported as at 31 October 2019. So far, 75% of these companies’ earnings have comfortably exceeded Thomson Reuters consensus forecasts, while 59% surpassed turnover forecasts. Usually, along with expectations of a decline in global economic growth, analyst forecasts will lean more towards the conservative side, but this is not quite the case at present.

According to the same Thomson Reuters consensus forecasts, analysts expect the party to continue with 9% growth (excluding dividends) predicted for the next 12 months for the S&P500 Index. If they happen to be 100% correct, that should place the price earnings ratio at 21.7 times, which cannot necessarily be considered as cheap.

Graph 1: S&P500 Index expected 12-month growth (source: PSG Wealth Old Oak & Thomson Reuters)

In conclusion, what I’m saying is that you shouldn’t miss out on a party just because you’re afraid that you may not enjoy it. Surprises currently tend to be on the positive side and although it’s not bargain time just yet, you should caution against aggressive selling.


The opinions expressed in this blog are the opinions of the writer and not necessarily those of PSG. These opinions do not constitute advice.  This is intended as general information and does not form part of any financial, tax, legal or investment related advice. Although the utmost care has been taken in the research and preparation of this blog, no responsibility can be taken for actions taken based on the information contained in this blog. Since individual needs and risk profiles differ, it is always advisable to consult a qualified financial adviser before taking action.

 

Schalk Louw
As Portfolio Manager at PSG Wealth Old Oak and with over 20 years’ experience in the investment industry, Schalk has consistently delivered solid returns to his clients and has certainly become one of South Africa’s most well-known strategists. He started his career in 1994 at the stockbroking company, Huysamer Stals (later ABN Amro). He joined SMK Securities in 1997, (later became BoE Personal Stockbrokers) and was later appointed as director and branch manager. In 2001 he co-founded Contego Asset Management and managed the company as CEO up to March 2014, after which he joined PSG Wealth Old Oak. Schalk has also become a regular household name with investors, with his reports being published in many of the national press. He completed his MBA in 2008.

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