US Stocks Are Cheaper: Welcome to Mid Cycle Investing

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US Stocks Are Cheaper: Welcome to Mid Cycle Investing

Three Data items today:

#1: Are Americans still interested in stocks? US retail investors, in many cases flush with multiple fiscal stimulus payments, have been a feature in domestic equity markets for over a year now. As the economy reopens and they return to pre-pandemic lives, will they still be as focused on stocks?

This chart shows the volume of US Google searches for the query “buy stocks” back to the start of 2020. The two peaks were at the S&P 500’s March 2020 lows (left peak) and January 2021’s YTD lows (right peak).

Interest in stocks is certainly well off the highs (by about 70 percent), but still almost 3x pre-pandemic levels (the low readings on the far left of the graph). It is also higher just now than July – November 2020. We read that as a higher structural interest level, with the one caveat being that seasonality may play a role.

Now, consider the relative number of US searches for “buy stocks” and “B”, the popular virtual currency that begins with that letter, over the same 17-month timeframe. If one is worried about waning investor interest in financial assets as the American economy reopens, “B” seems more exposed to that issue than US stocks. Every peak in searches since January 2021 (when “B” broke $40,000 for the first time) has been to a lower high.

Takeaway: US retail investor interest in equities looks to have settled out at higher levels than pre-pandemic, even if they are (not unexpectedly) well off the highs from last year. We’d call that a healthy adjustment. “B”, while still a much more popular search than “buy stocks”, may not have fully reset to a more sustainable level of general interest however.

#2: Take it from an old cyclicals analyst: when you’re playing an economic recovery you want to buy stocks when their forward price/earnings multiples are high and sell once they hit something approaching “normal”. Markets always sniff out the next upturn while the headlines are still focused on the current recession and analysts are cutting numbers.

We bring this up because the S&P 500 is cheaper on a forward PE multiple basis right now than at the start of 2021 (21.0x versus 22.6x, down 7 percent), so this process of valuation normalization to lower levels is already well under way. Let’s run through some numbers that explain how this is happening:

First, aggregate S&P 500 2021 earnings expectations are up more than the market: 12.0 percent vs. 10.8 percent. As a standalone indicator, this is not good news. It means markets are growing worried that the bulk of earnings revisions are in the past. Our offsetting positive, as outlined in Markets, is that analysts’ estimates are still way too low for Q2 and Q3.

Second, the Technology sector’s (26 pct of the S&P 500, largest of any group) forward earnings multiples has come down dramatically since the start of 2021. In early January, it was 27.5x; now it is 24.3x, a 12 percent drop. Despite a raft of Q1 earnings beats and analysts raising 2021 estimates, Tech is only up 3.8 percent YTD.

Thirdly, the highest valuation group in both January and now – Consumer Discretionary – has also seen a double-digit percent decline in its forward PE ratio. In January, it was 37.0x. Now it is 32.9x, an 11 percent drop.

Now, this is not to say every S&P group is cheaper now than the start of the year. Industrials are slightly pricier (25.5x vs. 24.1x), thanks to their 18 pct gain YTD. So are Consumer Staples (20.6x vs. 21.0x), even though they are only up 5 pct on the year. But that’s about it in terms of major offsets to a generally cheaper S&P 500. Even Energy (33.1x down to 18.9x now) and Financials (15.3x down to 14.5x now) are less highly valued since the start of 2021. We still like both groups, by the way.

Takeaway: being bullish here means expecting that future earnings revisions will more than fully offset declining US equity valuations. That may sound like a pretty bad setup, but it is entirely normal during recoveries.

#3: The NY Fed had a useful analysis out last week about what sorts of US households paid down their credit cards the most over the last year. They used anonymized credit data from Equifax and found the following (link to the complete analysis below):

First, and perhaps unsurprisingly, higher income households (+$79,000/year) have paid down more of their credit card debt on a percentage basis than lower income ones (less than $48,000/year up to $58,000/year). The percent differential is 12-13 percent paydowns for the lower income strata as compared to 19 percent for the highest income group.

Second, the amount of debt paydown over the last 15 months varied quite widely by age cohort. As the chart below shows, younger cardholders (ages 20-29, light blue) did pay some debt down through July 2020 but past that their balances started to rise again. The oldest cohort (+60 years old, dark blue) have been paying down debt over almost all of the last 18 months and now have balances almost 20 percent below December 2019 levels.

Takeaway: a piece of the ongoing US economic recovery hinges on consumers using some of their open credit card balances, but the two groups with the most capacity (wealthier and older households) generally have lower propensities to consume. This would argue for a slower recovery, and we’re certainly seeing some of that in data points like last week’s Advanced Retail Sales.

Sources:

NY Fed Credit Card Balance Analysis: https://libertystreeteconomics.newyorkfed.org/2021/05/credit-card-balance-declines-are-largest-among-older-wealthier-borrowers.html