Just how high will the S&P 500 go? September has historically not been a good month for U.S. equities, and just a few trading days into the month, we’re already seeing choppiness. On the flip side, though, the index has been range-bound for quite some time and hasn’t ended any trading day with more than a 1% decline in more than 49 days.
All’s quiet on the S&P 500
The S&P 500 has been floating back and forth between 2,175 and 2,150, but prepare for a fresh bull run over the next 12 months, suggest equity strategists at Morgan Stanley. Led by Adam Parker, they raised their 12-month bear, bull and base case target prices for the index in a report dated September 6. Their base case moves from 2,200 to 2,300, while their bear case moves from 1,600 to 1,800 and their bull case goes from 2,400 to 2,500.
They noted a relationship between real yield and price to earnings ratios:
They explained that yields sit close to 0%, which of course is an extreme low level and has previously been linked to lower price to earnings multiples. The reason is because usually such low yields were seen as being “riskier regimes where the world was reliant on policymakers and their efficacy.”
“So perhaps, the bubble we are all searching for is simply in the belief in the policymakers,” Parker and team wrote. “On the other hand, a real yield of zero could be 17% on the 10-year yield and 17% on CPI, or 1.5% and 1.5%, and perhaps history isn’t a perfect guide, as different levels create different forward outlooks.”
Why Morgan Stanley likes U.S. equities
Parker and team explained four main reasons they like U.S. equities. One is that bond yields are so low that they seem risky. Second, they noted that 70% of the world’s equities that trade at least $100 million daily are in the U.S., and third, they said the U.S. is the only major region that could see positive earnings per share growth as a base case.
Finally, they don’t believe investors are positioned for “big side,” whether from futures, options, prime brokerage data, surveys or any other factor. They don’t see “excessive optimism” among their firm’s clients at all.
S&P 500 is expensive, but Parker says it’s OK
The Morgan Stanley team added that while the S&P 500 is expensive, it might not be a big deal.
Do you know which under-the-radar stocks the top hedge funds and institutional investors are investing in right now? Click here to find out.
They said currently U.S. equities offer a dividend yield of 2% and a net buyback greater than 2% with what they estimate to be approximately 3.5% per annum earnings per share growth over the next couple of years.