S&P 500 Earnings Expectations Rise into a Sell in May Rally

According to S&P Global, at the start of the year, bottom-up estimate expectations for 2021 were about $164. Bloomberg consensus had similar numbers. FactSet, had the number at $167 to start the year. They are currently at $176. The current numbers for 2022 are about $200. I see a 20x multiple as expensive (historic mean 16.5x), which gives the market a 4000 target at the end of 2022. If bond yields rise 100bps “normalize” as the Fed seems to want with more inflation, the multiple should be closer to 18x, which puts the market at $200×18=3600 at the end of 2022. Here in lies the major challenge we face. Bond yields need to stay very low to keep the elevated multiple in the 22-23x range (Jay Powell has said as much). Which would put the upside range in the 4400 to 4600 by the end of 2022.

At the end of 2019 (before COVID-19), the expectation for 2021 earnings was in the $200 range (see chart). The S&P 500 was at 3230, we are now at 4020. The US 10-year bond was at 1.92%, it is currently at 1.72%. Seems like stocks are VERY expensive relative to bonds in this simple analysis. It probably does not matter for the next 4-6 weeks of good news of earnings season (and vaccine re-opening rollouts), but this could be setting up a “Sell in May” rally.

US Banks kick off the big cap names on April 14th. Banks have been the biggest beneficiary of the steepening of the yield curve. It will be important to here are loan losses and net interest margins. We expect lots of good news from banks. The steeper yield curve has been a big positive. In wanting higher inflation, the Fed wants a steeper yield curve. They will have to have yield curve control to keep it.

The consumer side of earnings will be tough with comparisons for a while given the non-conventional spending patterns. But the hopes for re-openings, will likely keep the news there good as well.

Big cap technology reports closer to month end. The news there will likely be good too, save for supply shortages. Once all that good news gets reflected in the higher multiple, we get very concerned about all the debt that needs to be financed in the coming year and what that means for interest rates. We estimate the net deficit is over $2 trillion (Treasury needs versus Fed buying) that needs to be funded. The average foreign buyer of US debt historically was over 40%, today it’s below 30%. The biggest buyer will need to be the Federal Reserve. They know it, they just do not want to talk about it. This will be a problem at some point in the second half of the year. Keep this on your radar.=

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