December 2020 – Holidays Newsletter

Happy Holidays to everyone! Now onto Higher Earnings and Lower P/Es

Thank you again for honoring us with your confidence and trust during this, the year of the pandemic. The 2020 pandemic created the biggest economic “bust to boom” cycle of the post-war era, and it’s not over yet. While vaccinations are here for many, for most of the population, it will take another three to four months before thoughts of cruise-ship vacations and conventions seem less than hazardous. But it’s time to put the year 2020 behind us. The stock market already has. It’s trading on 2021 and 2022 earnings’ estimates, post pandemic, post vaccines and pre-inflation. So as Walt Disney used to say, (or something like it) “and now as we leave Adventure Land it’s time to return to Tomorrow Land.”   

A new study shows that when GDP is growing less than 4% annually, growth stocks do best as investors look everywhere to find growth. However, when GDP growth is above 4%, as will be the case coming out of a pandemic shutdown, growth stocks underperform and value, cyclical and emerging-markets stocks outperform. Some analysts are now calling for a buy anything but growth strategy in 2021. So, as we move into 2021 we can say that (1) no one really predicted the dramatic rise in stock prices since March and (2) no one really predicted the turn-on-a-dime transition in November that caused value stocks to outperform growth stocks by the largest monthly margin in the last 30 years. The good news. Your portfolio participated as we have been loading up on value equities for the last year or so while growth stocks reached what appeared to be unsustainable valuations. This rotation from growth stocks to value, small-cap and emerging-market stocks has improved investor conviction. Investor sentiment is mostly formed by stock market action, politics, international tensions, monetary and fiscal activities, daily news flow, and economic, profit trends and investor emotions. And of course, the economy is paramount in shaping consumer confidence and investor sentiment, as it effects all those dynamics.

The stock market itself ultimately reflects underlying economic health. This includes:

  • Political drama, which often centers around the economy,
  • The Fed and fiscal actions, directly tied to the stock market,
  •  Earnings performance, individual company fundamentals.

Chart 2 below suggests that improved investor sentiment has caused many investors to worry that investor sentiment is overdone. And in fact, of 91 industry groups monitored for short-term technical analysis, 80 are indicated as a Buy rating, that is, they are under strong accumulation. It may not take much to see this party disrupted with a correction. However, there are several structural impediments to a severe correction in the equities market over the next few months. They are:

  • More fiscal stimulus programs in Europe and the U.S.,
  • Vaccination campaigns to save lives and the economy,
  • Very easy quarterly earnings comparisons between 2020 and 2021,
  • Growing savings rates among Americans,
  • Continuation of rental assistance programs,
  • Historically low interest rates spurring auto and home sales.

In summary, after several years of outperformance by massively large technology companies, we are now witnessing the beginning of a rotation out of such companies and into smaller capitalized companies, emerging-markets stocks, and cyclical firms, often defined as companies who sport a rebound in earnings higher by percentage rate than the price-earnings ratios of the same company. This bodes well for the 2021 stock market and your accounts, even in the midst of skepticism centered on advancing investor sentiment. 

The S&P 500 trailing EPS (Earnings Per Share) is estimated to be some $127.91. Meanwhile the consensus earnings for the S&P 500 for calendar-year 2021 is $172.23. That’s a 35% gian in earnings next year over 2020.  So, while price-earnings (P/E) ratios are high you can expect P/E ratios to decline as earnings outpace P/Es next year. Some analysts are forecasting S&P 500 EPS of $185 next year. If so, the current P/E multiple of nearly 29x could decline to 22x while the index rises to about 4,100. It’s worth noting that each of the last three bull markets began with trailing 12-month earnings per share excessively priced on a P/E basis. Yet while todays P/E multiple is nearly equal with levels at the start of the last three bull markets, the last three bull markets started with even treasury yields of 7.5% in 1992, 5.0% in 2002, and 4.0% in 2009. Adjusting for the low bond yields of today, the S&P 500 P/E ratio is not nearly as extended as it was at the onset of the prior three bull markets.  

Happy New Year,

Vaughn Woods, CFP, MBA

Vaughn Woods Financial Group, Inc.

2226 Avenida De La Playa

La Jolla, CA 92037


Investors should be aware that there are risks inherent in all investments such as fluctuations in investment principal.  Past performance is not a guarantee of future results.  Asset allocation cannot assure a profit nor protect against loss.  Although the information has been gathered from sources believed to be reliable, it cannot be guaranteed.  Views expressed in this newsletter may not reflect the views of Bolton Global Capital or Bolton Global Asset Management.  The information provided is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice.  VW1/VWA0256