Seasonality and Stimulus Supportive for Q2
This week marks the 14th anniversary of Berman’s Call on BNN. Thank you!
Seasonality patterns show the longer-term biases markets have exhibited historically. There is no guarantee these work every year. When we combine seasonal factors with other (none related) factors like the recent $1.9T stimulus, you have support for the seasonal bias and higher odds that it plays out. The chart shows seasonal patterns for all years since 1927. It’s clear that Q3 presents the biggest challenge for markets historically. The next few months historically show some of the best seasonal patterns of the year. I also look for a catalyst for seasonal patterns to dominate. This year we seem to have a good one for now.
S&P 500 Seasonal Patterns 1927-2020
Seasonal patterns suggested that Q1 would likely show weakness in the first year of a presidential cycle (next chart). But the reasons for the weakness have very little to do with the typical things that cause weakness historically. This time around it was about rising bond yields. In most years, it is just a cooling after the post election results rally and then some uncertainty around the new administration. The first stimulus Bill was done via reconciliation, which will likely have negative implications for Congress in the mid-terms in November 2022.
S&P 500 Seasonal Patterns 1927-2020 (first year of presidential cycle)
We had suggested late last year that the post COVID recovery trade would see the average stock (RSP – S&P 500 equal weight ETF) beat the broad S&P 500 (SPY). The chart clearly shows that big cap technology (QQQ – NASDAQ 100 ETF) has been the weight on the overall market. On a YTD basis, big cap tech as measured by the QQQ have seen no gains. For the broader S&P 500, it was similar until a few weeks ago. The average S&P 500 stock is now up 10% this year.
When we look at 2020 with perfect hindsight, we see the average stock (RSP) was up 12.7% while the QQQ was up a staggering 48.6%. To the extent that big cap tech goes nowhere for the next year is pretty high while the average stock plays some catch up. Anti-trust legislation for FB, AMZN, GOOGL is also a bit of a headwind while the catalyst for the average stock is the reopening.
Looking at the go forward, the best earnings upgrades are not likely coming from what did well last year but from what did not. Expectations for earnings for 2021 are about $175 and we expect we will see the average earnings report that starts in mid April to be encouraging (given stimulus and vaccine success). We could see earnings get upgraded to about $180.
Here is where the support from low interest rates and rising inflation gets complicated. As long as rates stay low, big tech should be OK (growth companies are considered very long duration assets). If rates keep rising, big tech will likely continue to weigh on the market and the S&P 500 will have trouble holding an elevated multiple. Remember, the long-term multiple is about 16-17x EPS. Currently, the S&P 500 is trading at 22.4x forward (the $175 number). If the multiple holds through Q1 earnings (we need interest rates to be stable), that could see a $180×22.4=4032 target and if rates fall a bit and big cap tech rallies too, we could see the market challenge the end of 2022 target of $200×22.4=4480 level. There is a good chance the highs for the year come in the next few months.
These bullish scenarios have huge leverage to the bond market and what the Fed says and does about it. But after we get through Q1 earnings, we have to pay for the stimulus and that will require about $2T in new debt issuance. Who is going to buy it? If the Fed does not step up their purchases, then we likely see rate pressures and the multiple goes to 20x$180 and suggests the S&P 500 closer to 3600 (we started the year at 3756), which is much closer to where we think we finish the year. So much depends on the FOMC and their ability to keep the party going. They seek more inflation, but higher rates likely kills the multiple. Powell is speaking 3 times this week to clarify last week’s message. For now, seasonality is a positive factor.
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