The World Keeps Spinning, Maybe Too Fast
The United States of America has survived another presidential election, and we are confident in the smooth transition of power come January. Most domestic stock market indexes (e.g., the Dow Jones, S&P 500, Russell 1000, etc.) are trading near all-time highs and continuing their upward movement seen over the past two years. As we opined in our blog back in February, presidential elections, in isolation, have little impact on stock market returns.
That said, there is still a lot of noise, rhetoric, and questions around the economy, geopolitics, and financial markets. From our vantage point, the economy remains remarkably healthy, despite the hypotheticals, both good and bad, put out by mainstream media regarding the potential policies the new administration might enact. We view much of this as hyperbole meant to stir up their audiences.
Regarding geopolitics, we remain concerned about the conflicts in the Middle East and Eastern Europe. Both pose “black swan” risks, as does China’s aggression in the South China Sea. These risks have been present for some time and, unfortunately, may remain with us for the foreseeable future. But it seems there are always “black swan” risks, and we are mindful of that as we construct client portfolios.
Finally, as we look at the financial markets, public companies are in good shape, as measured by revenue and earnings growth expectations. Stock market returns, looking at the S&P 500, have been outsized in both 2023 and 2024, up 26% last year and 27% so far this year. However, this has led to elevated stock valuations, with the price-to-earnings ratio of 22x expected 2025 earnings. This is nearly 40% above the 20-year historical average of about 16x earnings.
Granted, the high valuation of the S&P 500 is skewed by Alphabet, Amazon, Apple, Meta, Microsoft, and Nvidia (the “Super Six”), which account for 31% of the index by market capitalization and trade at an average of 30x earnings. Even so, the average stock in the S&P 500, which trades at 18x earnings, seems elevated. Based on the 10-year U.S. Treasury yield of 4.4%, history suggests the average stock should be trading somewhere between 13-15x earnings. With this in mind, we believe equities could face a period of lower prospective returns over the next couple of years, and we can’t rule out a moderate-to-significant market pullback if valuations “level set” back to historical averages.
To be sure, we are not negative on the long-term prospects of the equity markets or the underlying health of the companies we own in our investment strategies. However, in the mid-term, we are adopting a more cautious stance until underlying earnings grow into their valuations or there is a downward reset of valuations. As such, we have been reducing our public equity allocations where appropriate, consistent with each client’s risk tolerances and liquidity needs, and increasing allocations to bonds and money market funds. For clients with minimal liquidity needs, we are also increasing our allocations to private market alternatives, which in our view, currently offer a better risk-adjusted return profile relative to public equity markets.
At the Tschetter Group, our focus remains steadfast on long-term results, managing risk through strategic asset allocation, and looking beyond the “noise.” Please don’t hesitate to reach out any time with questions, concerns, or if your goals change. We’re here to support you every step of the way.
With optimism,
Peter Jacobs, CFA®, CFP®, SENIOR PORTFOLIO MANAGER
Nathan Mumford, CFA®, RESEARCH ANALYST
Sources: FactSet and Tschetter Group
Important Disclosures
The content of this article is provided for general information purposes only and is presented solely as our opinion. The information was compiled from sources that we believe to be reliable, however, we cannot guarantee its accuracy, completeness, or timeliness. This article is based on the information available to us as of the date of this article and may change at any time. Tschetter Group does not provide tax and legal advice. Please consult your legal and tax professional for specific information.
Tschetter Group (“TG”) is a registered investment adviser with the Securities and Exchange Commission. The information provided by TG (or any portion thereof) may not be copied or distributed without TG’s prior written approval. All statements are current as of the date written and does not constitute an offer or solicitation to any person in any jurisdiction in which such offer or solicitation is not authorized or to any person to whom it would be unlawful to make such offer or solicitation. Different types of investments involve varying degrees of risk. Risk Disclosure Statement: All investments include a risk of loss that clients should be prepared to bear.