Stocks got off to a rough start to the second week of 2021. Some profit taking is not unexpected following a week of strong gains. Despite the chaos of last week, the markets moved to new highs after the Georgia Senate results. Wall Street is counting on a continued bulge of spending and loose monetary policy to combat the negatives of COVID.
Monday’s selling is not too concerning as volume was light. We could see some range bound trading from here to Joe Biden being sworn is as President. Not because of politics, but because the inauguration lines up with earnings season going full tilt.
Companies will tell us their view of the economy with their 2021, full year forecasts. If the collective outlook is positive, stocks should continue on their path higher in the near-term with solid earnings, fiscal and monetary stimulus providing the juice.
As it stands now, analysts have high hopes for 2021. The consensus is for reported earnings to hit $150.06 for the S&P 500 in the year ahead. That would be the highest number ever, topping 2019’s $139.47. If we applied 2019’s price to earnings ratio of 23.16, it would put the S&P 500 at 3,475.39 based on the current 2021 earnings’ outlook. The index closed Monday at 3,799.61.
Since the close of business on December 31, 1988, the average P/E for the S&P 500 is 24.22. At that valuation, the S&P would price out at 3,634.78 using this year’s consensus expectations. Currently, the S&P 500 is trading at 25.32 times Wall Street’s as reported earnings estimate for 2021. If you take out the catastrophes, COVID, Subprime Crises, 9-11… only the DOT.com bubble era of the late 90s had higher valuations in the last 32-years.
It’s important to remember that current earnings projections are based on current tax law. President to be Joe Biden promised to undo President Trump’s corporate tax cuts. If team Biden raises taxes, earnings could come in lighter than anticipated.
For stocks to head higher, investors will need to pay up handsomely or profits turn out fatter than expected. All is not lost, however. Stocks gained ground in eight of the last 10 first years of the four-year Presidential cycle with an average return of 20.89% – solid. The two down years lost 13.04% in 2001 and 9.71% in 1981.
The year ahead could be a tug-of-war between recent presidential trends and elevated valuations. In the end, it’s never “different this time” and the numbers will win out. There will be a significant correction and a bad year is coming, the question is will it be this year or next?
Joe Biden sectors lead the way with First Trust NASDAQ Clean Edge Green Energy Index Fund (QCLN) and ETFMG Alternative Harvest ETF (MJ) kicking some rear-end, up more than 18% and 13%, respectively. They were followed by oil and banking sectors.
We just can’t violate what we’ve learned over the last 30-years in the financial markets. All of the top performing charts are banging their heads against the upper limits of the normal relative strength levels.
Much like P/Es, it could be that sector exchange traded funds (ETFs) throw aside history for a short time and continue higher. But we live by the axiom, “it’s better to be out of the market wishing you were in than in wishing you were out.” Yes, losing money hurts more than making money pleases.
With elevated ETF levels, we’ll stay out here too wishing we were in if prices climb.