The equity analyst team at Goldman Sachs Portfolio Strategy Research says you can’t go wrong with low relative valuation and high growth. That’s why GS analysts David J. Costin, Amanda Schneider and colleagues say it’s time to buy the Nasdaq 100 instead of the S&P 500 in their March 5th US Equity Views report.
Kostin et al. detail their argument for the tech-heavy Nasdaq index below. “Although [the current Nasdaq 100] price is reminiscent of the early 2000s tech bubble, valuation tells a different story. NDX trades at 18.8x forward earnings and a near decade-low relative P/E of 1.1x versus S&P 500. However, the 10 percentage point spread between NDX and S&P 500 EPS growth (15% vs. 5%) is near an all-time high. We recommend investors buy NDX vs. S&P 500 to capitalize on this index-level “growth at a reasonable price” opportunity.”
Low relative valuation and high growth
The Goldman Sachs report highlights that the Nasdaq 100 has outperformed S&P 500 by 660 basis points over the last year, but relative valuation of the technology-laden index is near the lowest in 10 years (18.8x compared to 17.5x). NDX offers superior sales and EPS growth in both 2015 and 2016. The analysts note: “The 10 pp EPS growth spread between the indices ranks in the 93rd percentile since 2000.”
Moreover, the Nasdaq 100 valuation seems low on an absolute and a relative basis. The forward P/E for the Nasdaq 100 is 18.8x. Of note, the forward P/E has gradually decreased since the tech bubble when the biggest Nasdaq companies were at close to 50x forward earnings. Kostin et al. also point out the NDX valuation is still well off all-time highs, while “the aggregate S&P 500 forward P/E equals 17.5x ranking in the 88th percentile historically.”
Nasdaq 100 index historically outperforms when relative P/E is low
Another point to consider is the Nasdaq 100 relative P/E has been under 1.1x the S&P 500 only 3% of the time since 2000, and the smaller index outperformed the S&P 500 over the following year 100% of the time, with an average beat of 957 basis points.
In more detail,over the last 15 year period, forward P/E for Nasdaq 100 has averaged around a 40% premium to the S&P 500. When you take out the tech bubble, the relative forward P/E for the Nasdaq 100 still averages 1.3x S&P 500 P/E ocer the last 10 years. Right now the Nasdaq 100 forward P/E is only 8% above the S&P 500, within a few percentage points of the narrowest premium in a decade.
All about Apple
Finally Kostin and colleagues highlight that owning the Nasdaq versus the S&P 500 gives you four times the exposure to profit factory Apple. That’s because Apple represents close to 16% of the Nasdaq 100 market cap compared to just 4% of the S&P 500. Of note, IT, Consumer Discretionary, and Health Care add up to 92% of the Nasdaq index market cap compared to 48% for the S&P 500.
