A myopic focus on large-cap technology stocks combined with a broader reacceleration of S&P 500 profits is creating a once-in-a-generation investment opportunity, according to a research report from New York-based Richard Bernstein Advisors LLC (RBA).
The research team at RBA is led by founder Richard Bernstein, former chief U.S. quantitative strategist at Merrill Lynch. They are extremely bullish on most of the U.S. market outside of the Magnificent 7 group of technology giants – Alphabet, Nvidia Corp., Tesla Inc. , Microsoft, Apple, Amazon and Meta – that have outperformed since the pandemic began.
The strategists believe that forecasts for a soft landing in the U.S. economy are too pessimistic. They believe the economy, and profits by extension, are set to ramp higher. They note that in July, economists predicted no growth for the U.S. economy in the third quarter. Estimates climbed quickly to 3.0 per cent but even this wasn’t enough – the preliminary GDP estimate recently came in at 4.9 per cent. Nominal GDP growth - which excludes the impact of inflation - is near 8.5 per cent, which should help corporate profits.
To further support their case, RBA points to the OECD Leading Economic Indicators for the U.S., which has historically been correlated to the profit cycle. The leading indicators have troughed and began a move higher, implying a similar move for broader earnings growth.
RBA compares the relative valuation levels of the Magnificent 7 stocks and the equal weighted S&P 500 to a “misbalanced seesaw.” The former’s PE ratio is above 40 while the equal weighted benchmark, which is essentially an average of everything else, is about 15 times. The strategists expect that the seesaw, which currently favours the Magnificent 7, is about to swing the other way.
RBA’s projected scenario is dependent on a strengthening in U.S. economic growth causing an increase in the number of companies representing strong earnings growth, enough of them to draw investor assets away from the Magnificent 7. The best way for investors to gauge the success of failure of the forecast is to watch U.S. economic growth closely.
Investors who agree with Bernstein’s views may find an exchange-traded fund like the Invesco S&P 500 Equal Weight ETF (RSP-A) quite attractive right now.
-- Scott Barlow, Globe and Mail market strategist
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