If consensus 2021 earnings estimates of around US$165 on the S&P 500 are correct, this would represent earnings growth of approximately 30% from expected 2020 earnings. Of course, with the index valuation slightly below 23 times forward earnings, some of this is already factored in, and stocks are not cheap compared with their own history.
That said, the low interest rate environment is supportive of higher valuation—unlike the scenario in 2000—and we think there are further gains ahead. This view is predicated on the Fed’s clear guidance that rates will remain low for a prolonged period and that the meaningful cash on the sidelines ultimately will be reinvested. In essence, the Fed continues to push investors out the risk curve, which should benefit equities as long as the earnings recovery continues. However, as always, it will come down to earnings growth, and we think the high-quality secular growth companies held in our portfolio remain advantaged over time.
Monitoring Signs of Overheating
That said, we are seeing some warning signs of an overheated investment climate. These include elevated trading by retail investors, excessive first-day initial public offering price increases, the Bitcoin rally, an abundance of Special Purpose Acquisition Company fundings and extreme valuations in certain sectors. While these activities aren’t directly related to what we invest in, they drive some concerns, as the excesses of 2005/2006 ultimately had a meaningful knock-on impact. It is difficult to predict how these microbubbles burst, but investors should not ignore the behavior––we sure aren’t.
The year 2020 proved to be a challenge that few of us expected going in. While it was not the most enjoyable year, investment returns were compelling from an absolute and relative perspective. The challenge now is to build on this progress. We think that is possible, but there are certainly issues to watch, and volatility could be elevated given higher-than-normal valuations. We remain comfortable with our portfolio of quality growth companies and think they are well positioned to succeed in 2021 and beyond.
Sources: S&P and AllianceBernstein (AB) as at 31 December 2020.
The value of an investment can go down as well as up and investors may not get back the full amount they invested. The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AB portfolio-management teams and are subject to revision over time. AllianceBernstein Limited is authorised and regulated by the Financial Conduct Authority in the United Kingdom.
