Wishing Away 2020

By Alex Eule |  Monday, May 11

Priced In. On a fairly quiet Monday, it's a good time to step back and ask an important question: Have stocks come too far, too fast? After all, the economic data remains awful. There's no clear path forward on reopening the economy. And the data on Covid-19 treatments and vaccines haven't yet revealed a silver bullet. 

Still, after a third consecutive day in positive territory, the S&P 500 is up 31% since March 23. The Nasdaq Composite -- up for six consecutive days -- has gained 34%.

One way to explain the contrast between stocks and the economy is that investors have decided that 2020 doesn't matter. Strategists see earnings tumbling 22% in 2020 (down from an April 1 estimate for a 3.5% decline). The same forecasters now see earnings rising 30% in 2021, up from an estimated 16% growth rate last month.

That would be the index's best profit growth since 2010, but the market has already priced in the rebound. How do we know? Because even relative to the 2021 earnings forecast for the S&P 500, stocks are trading in line -- if not higher than historical values. The S&P trades at 18 times the index's estimated 2021 earnings of $166 per share. A full value suggests that there's not much room for hiccups in the weeks and months to come. If the shutdown slips into next year, investors could be forced to readjust their math, leading to another selloff. 

If you're interested in valuation multiples, Barron's Al Root has the math -- and some cool charts -- here.

We're also entering a tough time of year for markets, even under the best of circumstances. Stocks often struggle heading into the summer -- as we've written about recently.  So given the big run, plus the weaker summer stretch, are stocks due for a pullback? Here's Ryan Detrick, senior market strategist for LPL Financial.: 

Based on our analysis of valuation, technical, and sentiment factors, we anticipate that a potential pullback in stocks, possibly around 10%, may create a more attractive entry point for more tactical investors. Historical patterns after bear market lows support this view, and we continue to recommend patience.

For long-term investors, we continue to believe stocks may be more attractive than bonds at current valuations, and we recommend overweight allocations to stocks, and a corresponding underweight to fixed income for suitable investors.

Detrick's year-end price target on the S&P 500 puts the index about 8% below current levels.