alfexe
I love tracking the economy and the markets, not to time them, but to understand the great interplay of money flows that is the global economy.
Here are five facts income investors need to know right now so you can harness the genius of global capitalism to live your dreams.
#1: The Economy Appears To Be Starting To Cool Back To Normal Levels
Atlanta Fed
According to the Atlanta Fed and the blue-chip consensus of economists, the economy is still in good shape.
OK, but who are these “blue-chip economists?”
The Blue Chip Economic Indicators and Blue Chip Financial Forecasts are trusted sources of predictions about the U.S. economy. Published by Wolters Kluwer since 1976, they collect forecasts from more than 50 top business economists who work for big companies like banks, manufacturers, insurance firms, and brokerage firms.
Here’s how it works:
Predictions: Each month, economists predict things like U.S. economic growth, inflation, and interest rates.
Combining Forecasts: The individual predictions are combined to create an average forecast. This helps remove any extreme views and provides a more balanced prediction.
Accuracy: Studies show these combined predictions are. The average error for most predictions is near zero, meaning the forecasts are close to the actual outcomes.
FactSet Research Terminal
The blue-chip consensus estimates about 2% growth in 2025 and 2026, with a solid 2.4% growth rate this year.
NY Fed
The New York Fed’s model says growth might be cooling a bit due to recent economic reports.
NY Fed
There are no signs yet of the AI acceleration that Goldman, JPMorgan, Mackenzie, and Ed Yardeni expect.
That productivity boom is expected to begin from 2026 to 2027, and we’ll watch for it.
5 General Purpose Technologies That Could Drive GDP Growth To 6% to 9% According to ARK.
Why AI Will Spark Exponential Economic Growth | Cathie Wood | TED
Cathie Wood, TED
Bank of America’s economists estimate “that a 1.3 percentage point increase in their GDP forecast (from 1.4% to 2.7%) translates to approximately five percentage points in additional EPS growth.”
That’s approximately 38 basis points of EPS growth per 0.1% change in GDP.
So, with 1.8% long-term growth expected, you can see how 3% to 9% GDP growth (the range of experts modeling AI and future technology) is potentially 6% to 36% faster EPS growth coming from the fourth industrial revolution.
Historically, the S&P’s EPS growth has been 6% to 7%, but FactSet and Morningstar both expect 11% to 12% in the future, thanks to the prominence of the Mag 7.
YCharts
This is why the growth outlook for US stocks has approximately doubled in the last few years.
6% growth consensus in 2010. 8.5% pre-pandemic. Now 11.8%.
Stack 6% to 36% growth on top of 6% to 12% EPS growth for the S&P, and you have 12% to 48% long-term EPS growth depending on how future technology transforms the world.
GDP Growth Rate Potential Long-Term S&P Earnings Growth Rate EPS Boost 1.80% (CBO and Fed Base-Case) 11.70% 0% 3% (Goldman Base-Case) 17.70% 6.00% 4% (JPMorgan Base-Case) 22.70% 11.00% 5% (Mackenzie Base-Case) 27.70% 16.00% 6% (ARK Bearish Case) 32.70% 21.00% 7% 37.70% 26.00% 8% 42.70% 31.00% 9% (ARK Bullish Cash) 47.70% 36.00% Click to enlarge
(Sources: Morningstar, FactSet, Bank of America, Goldman, JPMorgan, Mackenzie, ARK)
The true future growth rate will most likely be somewhere between the 3% and 9% range; even the low-end range of 12% EPS growth for the S&P (current consensus from FactSet and Morningstar) represents 12% growth + 1.5% yield = 13.5% long-term return potential.
That’s 3.5% higher total returns than the S&P 500 has historically delivered.
Ritholtz Wealth Management
The potential for future tech to drive 15% to 20% EPS and thus help drive a new golden age for investors is a strong reason to stay invested in US stocks long term.
Visual Capitalist
No one has more AI startups, or more startups, than the US.
NetBase Quid
Ritholtz Wealth Management
For context, the US government spends $185 billion annually on infrastructure, including the IRA, the Infrastructure Bill of 2022, and the CHIPS Act.
The big five tech giants are spending over $200 billion on growth capex this year alone, which doesn’t include R&D.
The growth rate of this spending is double digits.
YCharts
Year Alphabet (GOOGL) Microsoft (MSFT) Apple (AAPL) Meta (META) Amazon (AMZN) Total Combined R&D 2010 $3.762B $8.714B $1.782B $144M $1.6B $16.002B 2011 $5.162B $9.043B $2.429B $388M $2.8B $19.822B 2012 $6.083B $9.811B $3.381B $1.399B $7.3M $20.974B 2013 $7.137B $10.411B $4.475B $1.415B $13.4M $23.451B 2014 $9.832B $11.381B $6.041B $2.666B $8.1M $30.028B 2015 $12.282B $12.046B $8.067B $4.816B $42.7B $79.911B 2016 $13.948B $11.988B $10.045B $5.919B $42.7B $84.6B 2017 $16.625B $13.037B $11.581B $7.754B $42.7B $91.697B 2018 $21.419B $14.726B $14.236B $10.273B $42.7B $103.354B 2019 $26.018B $16.876B $16.217B $13.600B $42.7B $115.411B 2020 $27.573B $19.269B $18.752B $18.447B $42.7B $126.741B 2021 $31.562B $20.716B $21.914B $24.655B $42.7B $141.547B 2022 $39.500B $24.512B $26.251B $35.338B $42.7B $168.301B 2023 $45.427B $27.195B $29.915B $38.483B $73.2B $214.22B 2024 $45.862B $28.193B $30.348B $39.080B $73.2B $216.683B Click to enlarge
(Source: FactSet Research)
So that’s $208 billion in growth capex and $217 billion in R&D for a total of $425 billion in growth spending, growing double digits through 2029, according to the FactSet Consensus.
Note that the big tech giants have been increasing their R&D spending by 20% annually, which is why their growth rates have been so strong.
Heavy spending on growth and R&D but also highly efficient investments.
YCharts
Don’t bet against US tech giants; their efficiency in growth spending is very impressive.
That brings us to the market’s valuation. It’s not unreasonable, given that the long-term prospects for growth are 12% today and potentially 12% to 48% in the long term.
#2: Market Valuation: GARP Rules The Street
Pacer Funds
Historically, the most accurate valuation metric is the enterprise value divided by cash flow, such as EBITDA, operating cash flow, or free cash flow.
Market Cap + net debt = enterprise value. The cost to acquire the entire company.
Week 21 % Of Year Done 2024 Weighting 2025 Weighting 40.38% 59.62% 40.38% Forward S&P EV/EBITDA (Cash-Adjusted Earnings) 10-Year Average Market Overvaluation 14.21 13.47 5.50% S&P Fair Value Decline To Fair Value Historical Cash-Adjusted Fair Value PE 5,040.69 5.21% 19.71 Click to enlarge
(Source: FactSet, Dividend Kings S&P Valuation Tool)
Based on the 10-year average EV/EBITDA, aka the cash-adjusted PE, the market is 5.5% overvalued as of May 23.
PEG Analysis With 12% EPS Growth (Current Consensus)
Potential Overvaluation S&P 10-Year Average Cash-Adjusted PEG S&P Current Cash-Adjusted PEG -31.38% 1.77 1.21 Click to enlarge
(Source: FactSet, Dividend Kings S&P Valuation Tool)
If the FactSet consensus (Morningstar) is correct, stocks might be highly undervalued.
PEG Analysis With 20% EPS Growth (Goldman, JPMorgan Tech Boom Base-Case)
Potential Overvaluation S&P 10-Year Average Cash-Adjusted PEG S&P Current Cash-Adjusted PEG -59.84% 1.77 0.71 Click to enlarge
(Source: FactSet, Dividend Kings S&P Valuation Tool)
PEG Analysis With 28% EPS Growth (Mackenzie Tech Boom Base-Case)
Potential Overvaluation S&P 10-Year Average Cash-Adjusted PEG S&P Current Cash-Adjusted PEG -71.00% 1.77 0.51 Click to enlarge
(Source: FactSet, Dividend Kings S&P Valuation Tool)
It doesn’t make sense to be bearish on the S&P or US stocks in general. If you don’t invest in US stocks in the next decade, you will likely regret it.
Since 1928
Charlie Bilello
# 3: Inflation Coming Down Slowly
This is why so many Americans are upset right now.
Truflation
The good news is that wages have kept up with wages and surpassed them.
Economic Policy Institute
Unlike the 1970s, when the middle class and the poor were badly hurt by negative real wages, this time, they’re experiencing the best inflation-adjusted growth rate in 40 years.
Economic Policy Institute
What about inflation in the future?
Truflation
Based on 10 million daily updated data points, Truflation estimates that CPI will reach 2.5% relatively soon.
According to the Cleveland Fed, since 2000, the CPI has averaged annual increases of 2.4%, while the PCE has averaged 1.9%. In other words, CPI tends to run 0.5% higher than the Fed’s target 2% core PCE.
So, 2.5% CPI is right at the Fed’s target, and the Fed should be able to start cutting soon.
Cleveland Fed Daily Inflation Model
Cleveland Fed
The Cleveland Fed expects inflation to come down slowly.
How slowly? Here’s the blue-chip consensus, courtesy of FactSet.
Q1 2024: 3.8% Q2: 2.8% Q3: 2.4% Q4: 2.4% 2024: 3.1% 2025: 2.4% 2026: 2.3%
The bond market believes these estimates.
YCharts
This means that 10-year yields are 2% above long-term CPI estimates, a real yield of 2%.
Goldman Sachs
Today’s 4.4% 10-year yields are perfectly average, historically speaking.
According to Morningstar, 10-year Treasury yields have averaged about 5.9% over the past 60 years.
The historical real yield? 0.9%.
In other words, bonds are potentially a good buy, with around 1% yield compression potential driving between 2% and 28% gains in US Treasury bonds, depending on the duration.
When the Fed starts cutting, there might be a solid bond rally, though the bond bear market won’t likely end for many years.
CME Group
The bond market expects the Fed to start cutting in September but believes it might not arrive until November.
Remember that since 2008, 80%-plus probability has been what the Fed has done.
So, the bond market is sure that the Fed’s first cut will arrive in November, and then a second cut by March.
Charlie Bilello
The bond market thinks the Fed will cut five times, once per quarter, starting in September, then December, March, and one more time in 2025. Then, one final time in 2026, with 4%, the new normal for the Fed Funds rate.
The long-term consensus for the 10-year yield is 4% and 4.5% for the 30-year yield.
That would make the yield curve useless for recession forecasting.
The Congressional Budget Office has a new 4.1% long-term 10-year yield forecast, at least for the next decade.
#4: Buffett Investing Lessons
10 Lessons From Warren Buffett | Signal or Noise Ep 26 | Charlie Bilello | Peter Mallouk
Charlie Bilello
Given the US dominance in technology, the same technology that might accelerate GDP growth to 3% to 9%, I would say Buffett’s quote from 2021 is as relevant as ever.
Charlie Bilello
Here’s The Cost Of Market Timing
JPMorgan Asset Management
Average investors achieved almost 50% lower returns than those in a 40/60 stock/bond portfolio.
And guess what? If you add managed futures to a 40-60 portfolio, here’s what buy-and-hold investors can achieve.
Portfolio Visualizer
A 40% stock, 30% bond, and 30% managed futures portfolio has historically gone up in the average bear market of the last 25 years.
Since June 2019
Portfolio Visualizer
Portfolio Visualizer Premium
If you can’t stomach the downside, park your money into a Return Stacked 40/60 and buy and hold forever, or until the world ends, whichever comes first.
Portfolio Visualizer Premium
It’s much less risky than trying to time the market using an overly aggressive asset allocation.
#5 Conclusion: The Economy Is In Good Shape, So Enjoy Your Memorial Day Week And Keep Investing In US Stocks For The Long Term
The bottom line is to own US stocks, stay long, and don’t let the doomsday prophets scare you out of US stocks. For the love of God, your financial dreams, and your prosperity, stay long in US stocks, trusting your asset allocation, not market timing, to protect you from market downturns.
Let global capitalism make your dreams a reality because even 13.5% annual total returns (the new consensus for S&P) have potentially life-changing compounding power. If Goldman, JPMorgan, and Mackenzie are correct, we could soon be making Buffett-like returns with index funds.
If Cathie Wood is correct, anyone who owns even modest stocks could do well, and those with large portfolios could do even better.
Here’s wishing you a safe, healthy, and joy-filled Memorial Day week!
