Is the S&P 500 undervalued or overvalued? Well it depends on the sector! Here is the latest from Savita Subramanian analyst at BAML on S&P 500 sector valuation.
Equity and Quant Strategy: S&P 500 relative value cheat sheet
The multiple swap: yield compressing, cyclicals expanding Last month, valuation multiples expanded across most sectors, but for the more defensive and higher yielding Staples, Inc. (NASDAQ:SPLS), Telecom and Utilities sectors, we saw a reversal from earlier this year as P/E’s contracted amid concerns of Fed actions. On relative forward P/E, Utilities is still the most stretched versus its historical average, but the sector’s premium to the market has fallen to only 6%, compared to an alltime high of 23% in mid-2012. Additionally, amid last month’s sell-off from these bond-proxy sectors, Financials has now surpassed Telecom as the second most overvalued sector vs. history on relative forward P/E (see Table 1 inside).
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High-Yielding Industries Vs S&P 500 Other high-yielding industries, such as Tobacco and REITs, also saw multiple compression in May, though they remain among the most expensive industries overall compared to where they have traded historically relative to the S&P 500.
We recently highlighted that the low beta bubble could be beginning to deflate, and advise investors avoid the expensive, high yielding low beta sectors in favor of inexpensive cyclicals with low “fundamental betas” (earnings stability).Globally exposed cyclical sectors still cheap.
Despite the run-up in May, most globally-oriented cyclical industries remain attractively valued. Tech offers the most implied upside on relative forward P/E and P/OCF, and Energy remains inexpensive across all three relative metrics we track (P/E, P/OCF, and P/B). Within Industrials and Materials, which both appear fairly valued on relative forward P/E, Industrials Conglomerates, Airlines, Metals & Mining, and Paper & Forest products all offer implied upside vs. history.In contrast, the more domestically-oriented cyclicals (Consumer Discretionary and Financials) appear expensive across most of their industries, Media being the notable exception. Health Care is the only defensive sector trading at a discount vs. all three of its historical average relative multiples.
Chart of the month: the multiple swap As highlighted above, Chart 1 below shows the discount (premium) to history on relative forward P/E for the globally- oriented cyclical sectors of Industrials and Tech vs. the high-yielding defensive sectors of Telecom and Utilities, and how the premium/discount has changed over the past month.
Relative valuation by sector Note: On the following pages, industries with less than 10 years of valuation data history are excluded. Boxes highlight sectors/industries with the highest implied upside and greatest implied downside. Implied upside is based on comparison between current relative multiple and historical average relative multiple.Definitions of valuation metrics
- Price/Book: Month-end market cap divided by total common equity as of the most recent fiscal quarter
- Price/Operating Cash Flow: Month-end market cap divided by the last twelve months cash flow from operations as of the most recent fiscal quarter. Note: All industries’ multiples are relative to the S&P 500 ex. Financials for P/OCF.
- Forward Price/Earnings: Month-end market cap dividend by I/B/E/S consensus next twelve months earnings