US Equities Undervalued Given Positive Earnings Revisions

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Citi Research released its weekly U.S. Equity Strategy Pulse Monitor on Monday, April 21st. The investment report highlighted that among the five categories in Citi’s proprietary Pulse Monitor, price and earnings were marginally positive, unanticipated and liquidity were neutral and sentiment was negative.

Stocks offer value

Citi analysts Tobias Levkovich, Lorraine Schmitt and Christina Wood suggest that given the recent correction, U.S. equities are now in a price range that generally offers value. They point to an “earnings gap” in the S&P 500 (INDEXSP:.INX) relative to an historical 40-year average, which according to their model means a 91% probability of market gains over the next year.

U.S. equities: Liquidity improving

Liquidity officially remained in the neutral category for the Pulse Monitor, but M2 continued to inch up and domestic equity funds saw strong inflows this week ($5.72 billion). For M2, the annualized sequential change in the four-week average increased to 4.53% from 2.45% the previous week.

Equities liquidity

Positive earnings revisions

Better earnings almost always eventually lead to higher stock prices. Levkovich, Schmitt and Wood also point out that all ten S&P 500 sectors are looking at positive earnings revisions thus far in April, and overall S&P 500 (INDEXSP:.INX) upward revisions increased to 47.3% so far this month compared to 37.9% upward revisions in March.

Market sentiment remains too euphoric

Equities Sentiment

The one fly in the market ointment right now, according to the Citi report, is investor sentiment. It boils down to the fact that investors are still too bullish about the market. The analysts point out, however, that the high levels of “euphoria” among investors are beginning to ebb. This week’s Panic/Euphoria sentiment number was 0.47 compared to revised number of 0.53 last week. According to Citi’s proprietary model, euphoria readings in this range “indicate the market may retreat with an 83% historical probability of losses in the next 12 months.”

Citi’s view on stocks

In concluding the report, Levkovich, Schmitt and Wood suggest there’s a good chance of further market downside in the short run, but that the second half of 2014 should see another rally. “With a 1,975 S&P 500 (INDEXSP:.INX) target by year-end 2014 driven by EPS gains as domestic economic conditions improve in the next several months, we remain generally constructive longer term while continuing to advise nearer-term tactical caution.”

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