The Verdict Is In... Guilty. Of a Bullish Outlook.

North American markets gave back some gains this week following a string of gains over four of the last five weeks. It was a quiet week for major economic data with the focus of markets on the winding-up of Q1 earnings. It’s worth remembering that when you remove all the noise, what drives share prices is earnings growth and the expectation of profitability, current or future.

This year the expectation is for S&P 500 earnings to grow by a solid 10%-11%, well above last year's 1% growth rate. We have gotten through most of the first-quarter earnings season, and once again corporate earnings growth did not disappoint. Over 95% of S&P 500 companies have reported earnings, and of these, nearly 80% have exceeded earnings expectations, above the long-term average rate of 77%. Earnings growth for the quarter is now forecast to come in at a healthy 6%, above the expectation for 3.5% growth at the start of the quarter.

The below chart illustrates the sectors of the market expected to deliver the most earnings growth. It shows the strength of market strength right now with all, but two sectors expected to grow earnings. You’ll also notice the strength of the market with Discretionary and Technology leading the way forward.

Interestingly, while pockets of the market are expensive (e.g “tech/tech-weighted indices) – the average company in the S&P 500 is not. The chart below shows the equal weighted S&P 500 index is trading slightly below its 10-year average P/E, on a next 12-month basis. Perhaps even more surprising is that it’s currently trading 18% below where it traded in Q1/2021, this pours cold water on anyone claiming the market is in a bubble.

Meanwhile, despite lagging the S&P 500 year to date, we believe the TSX remains poised to reverse course and begin to overtake its neighbour to the south for the remainder of 2024. As a reminder, BMO Chief Investment Office Brian Belski recently increased both his S&P 500 and S&P/TSX price targets to 5,600 and 24,500, respectively. These new targets imply a near 5.5% return for the S&P 500 and a solid 9.5% return for the S&P/TSX into year-end.

Indeed, as we have discussed frequently over the last few quarters, we believe that a significant catch-up trade will eventually transpire in Canada. To be more specific, we believe the upside in Canadian equities will be driven by the strong relative value position, improving fundamental sentiment, returning foreign flows and the overall broadening of equity performance from the US mega-caps. Furthermore, when we analyze current Canadian index performance, two of the three largest sectors in the TSX (Energy and Materials) are already sharply outperforming the TSX this year. In fact, Belski’s work shows the TSX typically outperforms the SPX when two out of three are outperforming and rarely underperforms when ALL three of the big-three sectors are working.

Furthermore, since 1956 the TSX outperformed the S&P 500 by over 10% on average in years when ALL three of these sectors were outperforming. Yes, while Financials are frankly languishing year to date, the sector is outperforming year over year. This suggests to us that Financials will likely reverse course much sooner than most investors believe and will begin outperforming as the year unfolds. Lastly, we believe there is significant room for a catch-up trade in the other non-big three sectors, which will also support the TSX strong returns in the second half of the year.

Given the volatility that we witnessed in early April and again here the last 2 weeks, we thought it would be a good idea to remind readers that historically bull markets are longer and stronger than bear markets (markets that are down 20% or more). In fact, since 1946, the average S&P 500 bear market has lasted about 16 months with average declines of 34%, while the average bull market has lasted about 5.6 years, with average gains of 192%. Even removing the longest two bull markets, the average bull market lasts about 4.3 years and gains 125%. Given that this current bull market started in October 2022, we are a little over 1.5 years into this cycle with the S&P 500 up about 48% over that time, history tells us that we may still have some time and price appreciation ahead of us.

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