QQQ - S&P 500: Maturity Walls Moderation And The Trump Wildcard In 2024

2023-12-20 17:12:34 ET

Summary

• We're guessing around a 13% gain in the S&P 500 Index till the end of 2024.
• Higher refinancing rates are going to start impacting corporate profits, and inflation could remain closer to 3% than 2%, but S&P 500 companies may be able to pass on the increases.
• We don't expect too much earnings growth for the SPY.
• The possibility of a Donald Trump Presidential win will do a lot for corporate taxes. Markets will almost certainly rally if he wins.
• While underlying earnings should be quite underwhelming in 2024, we think continuation of high multiples, which drive valuations anyway, and Trump might get the SPY higher in 2024.

Predicting the S&P 500 Index ( SPY , SP500, SPX) is a fool's errand, and pretty useless even if you get it right when investing in an idiosyncratic portfolio. However, as an end-of-the-year event here at Seeking Alpha, we'll join and do it anyway.

We think that there are a couple of key things that need to be baked into the discussion. Firstly, are the earnings we can expect from the S&P, which are affected by higher rates that impact on corporate budgets, as well as GDP growth, and general economic health, and also inflation with its impacts on nominal revenue and earnings growth.

Then there is the matter of multiples for the S&P, which are currently at pretty high levels, certainly on a historical basis. These multiples are determined by expectations about earnings on an unknowable time horizon, which just means we don't know whether a 2024 disappointment in earnings would actually impact expectations or not. Maybe participants are waiting for 2025 or 2026, driven by expectations around AI.

Then there is a speculative wildcard factor, which we believe is the possibility of a Donald Trump win in the Presidential race. We think a Trump win could happen, and that would likely rally markets like it did in 2016 to the end of that year, so our overall expectation is a 5,351 level for the SPY, so around a 13% gain in 2024.

An Analytical Look

Practically speaking, there might be several ways to make a forecast. But, beginning with an analytical look, we are going to focus on the fact that 2024 is going to be a maturity wall year, meaning guaranteed pressure on earnings from rising average interest costs. Current average rates are around 2.8% , and without the need for much speculation, we expect that rate to go up to 3.28% by the end of 2024, based on a 3.75% rate plus 100 bps in investment grade credit spread in the next round of refinancing.

This figure is based on the yield curve , where we calculated what the forward 4.5Y maturity yields will be from about 6 months from now, when the average refinancing will occur in 2024, a year in which we see about 25% of outstanding debt come into maturity.

We think inflation is not going down. Looking at Fed Chair Jerome Powell's comments in this latest "dovish" meeting, we think that all that is happening is that the growth mandate is kicking in, because that is now a concern . Powell commented on "anchored" inflation expectations referencing 2026 expectations, which is a little strange since shorter-term expectations are high, and longer-term anchors can be trounced by the volution of shorter-term anchors. 1Y expectations are still at 3.1% , barely down from the 3.4% this time last year, and we hypothesize that more than any other factor, these consumer inflation expectation will set the inflation rate by the expectations-price setting theorem, and not the dynamics of the labor market coming into better balance, or producer price indices.

However, we also think that there shouldn't be a major issue among SPY companies to pass on those increases, and adding that to forecasts for GDP increases, we expect around 3.15% average EBITDA growth, which net of higher interest costs should actually neutralize an earnings impact on SPY companies. The data is shown below.

Regardless of what came out of our earnings calculations, what matters so much more are the multiples for the S&P, and the possible levels of the S&P are shown below with different multiples.

We think a lack of alarms concerning inflation and financial conditions concurrently leads to the 23x P/E multiple, which is around the current multiple. being durable. We expect a pretty flat performance of the SPY, with a 0% change by the end of 2024 .

A Practical Look

The U.S. markets are pretty skewed towards the mega-cap exposures , which dominate the portfolio moves despite the S&P 500 already being the largest and most established companies in the U.S.

A practical approach would be to consider the outlook of just some of the top stocks, and try to make an expectation of price performance of just these stocks, as well as of some of the other top sectors. We assume vaguely that earnings growth will drive performance. All of this is a guess anyway.

Tech stocks are around a quarter hardware products, a quarter semiconductors specifically, and the rest is software for apps and systems. Semiconductors are tough to predict because they are now somewhat correlated with AI expectations. Hardware is dominated by Apple ( AAPL ), and systems software is dominated by Microsoft ( MSFT ). We follow none of these large caps, but based on articles on Apple , SA Analyst ratings of Apple (where we trust SA), we don't expect super normal returns, so around 2-3% in line with costs of capital for Apple. We also think more could go wrong for Apple in China, merely on the basis of shifting consumer preferences away from companies who are linked with the U.S., happening already with Samsung ( SSNLF ). The Chinese economy is unlikely to get better for a while with an ongoing deleveraging event there.

For Microsoft Corporation (MSFT), we focus on analyst comments on FCF yield, and are aware that AI and the OpenAI connection is likely a good part of the re-rating, where disillusionment in AI is inevitable in our view, especially over the medium-term to short-term horizon. Similarly low expectations here of around 3% outlook, also considering general challenges to big-tech in the political arena. For app software, we don't see much acceleration at all, and look at it being flat in the coming year, also due to continued labor inflation, some rate pressure, weakening economic outlook and other general concerns. It was a resilient segment in 2023, so we don't see it accelerating now, but instead keeping solid figures.

Semiconductors could be going into a glut on supply chain hedging and asset duplication, but companies like Nvidia ( NVDA ) are likely to stay pretty strong on the basis of the AI connection, although even there the risks exist of a stoppage in people buying AI business options, which NVDA effectively sells in this market.

We think financials will do well on an improving duration gap and reversing deposit beta effects, especially as loan growth persisted this year when long-term expectations for rates were a lot higher. The capital markets and M&A businesses at full service banks should also improve. Healthcare will not be especially strong, and we are nearing the years where tax the rich legislations comes in. We are not optimistic about consumer discretionary, where we think there is more union pressure, wage inflation is more extreme, and a resilient 2023 year offers no rebound potential.

Assuming normal returns in every other S&P 500 sector, we get something like 4.47% overall return of the SPY.

Bottom Line

We don't expect major growth of the SPY in 2024, despite the dovish message, due to a combination of ceilings to earnings, weak economic outlook, possibly AI disillusionment and a generally resilient 2023 despite the pressures. Correlation could reduce between bonds and stocks, with dovishness supporting bonds but bearish outlook and pressures in the pipeline from rate hikes hitting stocks and leading to bearishness. We would peg our guess between the 0% analytical estimate and 4.5% hand-waving estimate for 2024 in terms of growth in the SPY, with a good guess being at 4,870 levels of the SPY.

However, we think there's an important binary that could lead to a SPY figure that's much higher: Trump winning elections. One of the reasons is that if Trump wins, the Ukraine war will end soon after he takes office, an expectation of that should become priced in after election. He is expected to cut taxes a lot directly on corporates. We think a 10% rally is very likely in November and December in 2024 if he wins.

We will actually take a Trump win into account for its geopolitical and local effects in our speculative guess on the SPY level. On top of our baseline expectations for the S&P of around 2.25% as a midpoint between our estimates, a possible Trump win in November gets us to a 5,351 level as our final guess.

Editor's Note : This article was submitted as part of Seeking Alpha's 2024 Market Prediction competition , which runs through December 20. With cash prizes, this competition -- open to all contributors -- is one you don't want to miss. If you are interested in becoming a contributor and taking part in the competition, click here to find out more and submit your article today!

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