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Stock investors can consider favorable yields as factors that could support gains after April’s losses, said Fidelity’s director of quantitative market strategy.
Stocks (SP500)(VOO)(IVV)(COMP:IND)(DJI) have risen Early May. Standard & Poor’s (SP500It fell about 4% in April amid concerns over the prospect of interest rate cuts.
Denise Chisholm, director of quantitative market strategy at Fidelity, said in a report earlier this week that the bull market will continue to run despite the “respite” in April, and delved into her ” Three reasons to remain bullish.
Outlook for corporate profits appears strong
Chisholm found earnings optimism in the Fed’s latest survey of senior loan officers’ opinions. They included a “sharp” six-month decline in reports of tightening standards for commercial and industrial lending to large companies. Since 1990, every time a similar six-month decline has been followed by an increase in earnings over the following 12 months, she said.
Separately, analysts’ 12-month profit expectations for technology companies are more than 25% higher than a year ago.
Valuation and momentum suggest the stock has more room to grow
Chisholm said stocks don’t look expensive compared with bonds. She measures stock valuations by comparing the market’s yields (earnings divided by price) to bond yields. She considers stocks to be cheap relative to bonds when their earnings yield is higher than the 10-year Treasury bond (US10Y) yield.
“Relative to 10-year Treasury yields, stock yields have recently been near the middle of their historical ranges going back to 1962,” she said. “The S&P 500 is up about 74% over the next 12 months compared to similar levels in the past.”
Momentum factors are also favorable, she said, judging from share price gains earlier this year. “In the past, when the S&P 500 rose within the top 1% of its historical range for 15 consecutive weeks, 98% of the time it rose within the following 12 months.”
Small and mid-cap stocks look undervalued
Chisholm feels “particularly bullish” on small-caps (RTY) and mid-caps (IWR) as they have lagged large-caps for more than a year.
Based on price-to-book ratios for the Russell 2000 Index (RTY) and the S&P 500 Index (SP500), small-cap valuations relative to large-cap stocks have recently reached the lowest 5% of their historical range. “Since 1990, every time small-cap valuations are in the lowest 5% relative to large-cap stocks, small-cap stocks have outperformed over the following 12 months,” she said.
She said that compared with the S&P 500 Index (SP500), the mid-cap S&P 400 Index (SP400) earnings yield recently hit the lowest 10% in its historical range.
For more large-cap ETFs:
- SPDR S&P 500 ETF Trust (SPY)
- Invesco QQQ Trust Series I (QQQ)
- Vanguard Total Stock Market ETF (VTI)
For more small- and mid-cap ETFs:
- iShares S&P Mid-Cap 400 Growth ETF (IJK)
- Invesco S&P MidCap 400 Pure Growth ETF (RFG)
- Schwab U.S. Small Cap ETF (SCHA)
- Avantis U.S. Small Cap Value ETF (AVUV)
