S&P 500 Booming as Company Earnings Set to Rise

By Dale Gillham | Published 21 January 2020

Since the start of November 2019, the S&P 500 has risen just over 9 percent and is looking very strong. So what’s currently driving this bullish market?

In order to understand where the market is heading, we need to look at where it has come from. From 1 January 2018 to September 2019 the S&P 500 only rose 11 percent, as earnings growth was slow and inconsistent. We are yet to see the 2019 fourth quarter company earnings figures, however, when they are released, they are expected to be slightly lower than the third quarter earnings in the order of 0.25 to 0.3 percent.

In 2019 earnings see-sawed each quarter with swings up and down in the order 0.3 percent; therefore, between April and October 2019 the market was quite subdued rising around 4 percent in around six months. However, in October the S&P 500 broke away to trade up strongly rising nearly 12 percent in just over 3 months.

The strong rise came on expectations that company earnings would improve greatly in 2020, with many believing the rise will be somewhere in the in vicinity of 5 per cent. This highlights a major difference between retail investors and the big end of town as they look for value into the future and invest early, while retail investor look for value now although they wait for everything to move before acting.

When a market moves this fast, investors get excited and jump in on the expectation that the bullish run will continue for quite some time. Unfortunately, however, in this instance you may have missed the best part of the run, as I believe the S&P 500 will start to slow down soon as the current rise is not sustainable.

We also need to look at which stocks are driving the market, and currently the top 5 stocks on the S&P 500 now make up just under 20 percent of the whole index. So is the S&P 500 getting too top heavy?

Since 1 January 2019 the top 5 have been rising strongly with Alphabet up 45 percent, Apple up 102 percent, Facebook up 69 percent, Amazon up 24 percent and Microsoft up 64 percent. If we look at the top 10 stocks on the S&P 500, they make up around 25 percent of the index. So what does this mean for investors?

The point of my analysis is to question why you would buy an index ETF when you can just buy the top 10 stocks on the market and achieve much better returns. In other words, you get to pocket the fees you would otherwise pay to have someone manage your money in an ETF.

I believe the reason why expectations are high for earnings to improve in 2020 is because negotiations with China on the trade deal are going well given that last week President Trump signed the Phase 1 deal with China. That said, the news is not all rosy as a few analysts are suggesting some of goals in the Phase 1 deal are not achievable given that part of the deal is that China will import $200 billion in additional US manufactured goods.

I don’t believe we should focus on whether this is possible, rather we should focus on the fact that China is increasing its imports from the US, which will create jobs and, in turn, earnings will grow on the back of this. As individual investors you do not really need to be too concerned one way or the other; therefore, my recommendation is to focus on the stocks you own and what we are looking to buy or, in other words, keep it simple!

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