The S&P 500’s high valuation is reasonable and could rise further this year as laggards of the index join the surge in winners from artificial intelligence, according to Goldman Sachs Group Inc. strategists.
While the broker’s base-case scenario is for the S&P 500’s price-to-earnings ratio to shrink slightly to 19 times from the current level of about 20 by the end of 2023, strategists led by David J Kostin said the risks to valuations are now skewed to the upside.
Robust economic growth and declining inflation make it unlikely that the high valuation of the top seven leader stocks of this year’s rally will shrink, according to Goldman. If the multiple of the remaining 493 members expands, the S&P 500’s P/E ratio could rise to 21, with the the benchmark climbing to 4,825 — about 6% above the Friday close.
Back in February, Kostin incorrectly forecast that the rally in US stocks won’t extend. In mid-June, Kostin correctly predicted that the gains will continue as the rally expands beyond the tech sector.
The breadth of the S&P 500 has been significantly improving, with 154 stocks in the gauge trading just 5% away from their 52-week high. Some 320 stocks are within 15% of their one-year top.
Also helping the case for higher equity multiples is falling US inflation and declining bond yields, according to Goldman. If the real 10-year US Treasury yield falls by 50 basis points to 1% and the yield gap remains constant at 363 basis points, it would imply an NTM p/e ratio of 21.6 times for the S&P 500 and a 4,975 level.
--With assistance from Jan-Patrick Barnert.
This article was provided by Bloomberg News.