I'm Steve Chiavarone, Portfolio Manager and Equity Strategist at Federated Hermes.
How do you describe the market's valuation in early 2020?
It's really popular right now to say that the market's expensive and boy, if earnings don't come through in 2020, the market can't go anywhere. We're not so sure about that. So, in terms of the earnings, it is true that the market P/E multiple went from 14.5 to 18.5 times last year. But it's also true that over the last three years we've seen corporate earnings rise north of 20% and the market multiple be more or less flat over that time period. So, I think you have to have to have that appropriate context. It's also very easy to say that the market's expensive because we're trading above the average multiple. But remember that average multiple includes a decade of time where the 10-year yield was about 10%. Which generally means you're gonna have lower equity multiples.
We don't see a world anytime soon, where we're looking at a 10-year yield north of 10%. And so what's important is, it's not just to look at some average and come up with some simple rule of thumb. But instead, how expensive was the market or what were people willing to pay for the market when economic conditions look like they do right now? So, when inflation's between 0% and 2%, on average we've paid a little bit over 18 times for the market. That's right about where we are. When interest rates are low, but rising, so they're below 5% but they're rising, market multiple tends to expand. And sure enough we're seeing multiple expansion. And when you're not in a recession, on average you seen the market multiple expand about one turn a year. So our view is that on a basis of about 5% to 10% earnings growth, and a little bit of multiple expansion, we can have a 3500 year end number on the S&P. And we think that's more than reasonable given the economic conditions.
Disclosure: Views are as of 2/5/2020 and are subject to change based on market conditions and other factors. These views should not be construed as a recommendation for any specific security or sector. Past performance is no guarantee of future results. PE is a reference to the Price to Earnings ratio. S&P 500 Index: An unmanaged capitalization-weighted index of 500 stocks designated to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. Indexes are unmanaged and investments cannot be made in an index. 20-40053 (2/20) Federated Global Investment Management Corp.