As a new golden American oligarchy begins in the next couple of days, it’s timely to note the huge rise in US stocks since the outcome of the election:
And with promises of tremendous fiscal stimulus through increased defence spending and other pork barreling, not including corporate tax cuts and barriers to investment in non-renewable energy, corporate America is surely the biggest winner of a Trump Presidency/Republican Congress.
Since 2012, the S&P 500 has risen almost 70% while earnings are up a mere 2%. The graph below plots the S&P 500, earnings per share and their respective trend lines.
Data Courtesy: Bloomberg and Standard & Poor’s
Whether or not an observed expansion of the P/E multiple makes sense depends upon the context. Such a situation may be justified when valuations are at or below the long run average, but keep in mind that current valuations are at levels that have rarely been eclipsed in history.
The current P/E multiple is not just above average, it is 70% above the average of over 130 years of observations. For those that follow the consensus expectations, we suggest that you also extrapolate expected returns for ever increasing valuations.
The graph below plots the S&P 500 and expected ten-year annualized returns:
Data Courtesy: Bloomberg and Standard & Poor’s
It is plausible that earnings will increase at a healthy clip and valuations will normalize. However, if we are to extrapolate prices like the so-called experts, then to be consistent, that same logic should also be applied to earnings and expected returns.
Expected returns, having trended lower since 2012, are now forecasting a sub-1.00% annualized return for the next ten years.
So don’t go loading your portfolios with long term allocations to US stocks just yet. Sure, a tactical and swift move to US stocks as the USD appreciates against AUD makes sense (and buying now as the AUDUSD is elevated is good timing), but buy and hope is just as foolish as thinking the new President will drain a swamp.
