S&P 500's era of hot stock market returns is over, Goldman Sachs says

Axios ^ | 10/22/2024 | Neil Irwin

[SeekAndFind]

For the last 15 years, all you've needed to do to achieve double-digit returns on your money was park it in an S&P 500 index fund, reinvest dividends, and forget about it. That happy ride may be over, according to a new note from Goldman Sachs that has Wall Street abuzz.

The big picture: The S&P is on track to return only about 3% a year in the coming decade, Goldman's portfolio strategy group estimates. Compare that to 13% average annual returns over the last ten years.

• Goldman's forecast implies the S&P — the benchmark index tracked by many of the world's most popular investment vehicles — is more likely than not to have lower returns than U.S. Treasury securities (72% odds) and could even deliver returns lower than inflation (33% odds) through 2034.

State of play: The forecast incorporates some of the standard variables portfolio strategists look at to project future returns — price-to-earnings-ratios and interest rates, primarily. But much of the subpar projection is rooted in the extraordinary concentration of the recent stock market runup.

• Stocks of a handful of fast-growing, highly profitable tech giants that are investing heavily in artificial intelligence — Apple, Amazon, Microsoft, Nvidia, Alphabet, and Meta — increasingly are the S&P.
• The index may be meant to contain 500 stocks, but those plus Berkshire Hathaway, Tesla, and a couple of others have accounted for around a third of the total market-cap weighted index in recent months.

Flashback: The Goldman team notes that in past episodes in which the market became highly concentrated, the megafirms that drove gains weren't able to continue achieving the outsized growth in sales and profit margins that would have propelled further gains.

• In the 1960 and early 1970s, the "Nifty Fifty" were large cap superstar companies, including names like IBM, Eastman Kodak, and Xerox. The 1970s ended up being a lost decade for stock market returns.
• The late 1990s tech boom sent shares of Microsoft, General Electric, Cisco Systems, and Intel to the moon, but the 2000s were also a deflating time of weak returns.

What they're saying: "Our historical analyses show that it is extremely difficult for any firm to maintain high levels of sales growth and profit margins over sustained periods of time," write David Kostin, Goldman's chief U.S. equity strategist, and four colleagues.

• "The same issue plagues a highly concentrated index," they write. "As sales growth and profitability for the largest stocks in an index decelerate, earnings growth and therefore returns for the overall index will also decelerate."

Data: Yahoo Finance; Chart: Axios Visuals

While the Goldman note has received lots of attention, the core idea — that subpar returns are likely ahead for the biggest U.S. stocks — is so widespread as to be practically conventional wisdom among those who analyze asset allocation.

• For example, Vanguard routinely updates its projected returns on different asset classes and currently only anticipates 3% to 5% returns for large-cap U.S. stocks (i.e., the S&P 500) over the coming decade.
• Vanguard sees substantially better returns ahead on value stocks, small caps, Real Estate Investment Trusts, and international stocks.

Between the lines: The flip side of the explosive growth in valuations of U.S. mega-caps over the last 15 years is that pretty much everything else, with more modest returns in that time, still has valuations that offer meaningful upside.

• Those of us who studied our Modern Portfolio Theory and built a portfolio strategically diversified based on factors like geography and company size have suffered subpar returns over the last 15 years relative to people who just piled everything into the S&P.
• In effect, the Goldman and similar forecasts are a prediction that the worm has turned, and the decade ahead will reward that diversification.

Yes, but: Maybe the AI revolution will involve winner-take-all effects and such massive capital spending needs that the winners of the last decade will also be the winners of the next decade, propelling the S&P much higher despite historical warning signs.

The bottom line: In deciding whether to go all-in on the S&P or diversify your stock investment more among value-oriented, smaller, and international companies, you are implicitly betting on one of those narratives.

[MeanWestTexan]

Goldman never publicly says what it believes. It says what it wants the market to do.

Probably time to invest in SP500.

[SeekAndFind]

HERE's the COMMENT MADE BY THE OXFORD INCOME GROUP REGARDING GOLDMAN SACH's PREDICTION:

To put that into perspective, the S&P 500 Index has produced an average annual return of about 10.3% since its 1957 inception.

If you extend the index backward to 1930 (which market analysts often do), the average is even better, around 11%.

And the index is up 23% this year with two months to go.

How Goldman's Prediction Compares to Other Decades - Distribution of S&P 500 annualized 10-year returns since 1930

So an anemic average return of 3% over the next 10 years would be a kind of lost decade for equities. Historically, we've only seen extended periods of such low returns after crises like the Great Depression and the 1970s oil shocks.

If Goldman is right, investors would be better off parking their entire portfolio in risk-free Treasuries. Right now the 10-year Treasury yield is hovering around 4.2%.

How did Goldman produce such a lousy prediction?

Goldman Sachs Chief Equity Strategist David Kostin, who authored the dour report, included many factors in his calculations - ranging from interest rates to return on equity to potential future recessions.

But his two major problems for equities over the next decade are market concentration and valuations. He says the stock market is too concentrated in a few stocks, and stocks are too expensive overall.

He's not totally wrong about that...

For valuations, Kostin's team uses the cyclically adjusted PE multiple, which is 38 times earnings, one of the highest valuations of the last century.

As for concentration, the report points out that the top 10 stocks in the S&P 500 comprise 36% of its entire market capitalization. In other words, 2% of the companies in the index account for more than a third of the index's market cap. (Think of the Magnificent Sevens stocks here).

Historically, when the market has a very high valuation and is narrowly concentrated, it underperforms over the next decade.



So Kostin has a point. Yet there are many factors that would suggest his forecast could be off the mark... by a lot.

So, the question is, should investors run for the hills yet?

Let's start with earnings. S&P 500 earnings are predicted to rise by double digits in 2025 and 2026.

And as Chief Investment Strategist Alexander Green of the Oxford Group periodically reminds us, earnings are the best indicator of where share prices will go in the medium to long term, certainly over a decade.

I would also point to rising productivity in the economy. The United States leads the world in productivity growth. In fact, U.S. labor productivity is up a whopping 70% since 1990. That means that every year U.S. companies are generating more output with less labor (typically their biggest expense).

Those numbers only look to accelerate as a host of new technologies - and artificial intelligence in particular - are likely to raise productivity growth even more in the years ahead. And productivity is the key to rising living standards, lower inflation, higher corporate profits, and, ultimately, rising share prices.

Not to mention... there's a fundamental problem with long-term predictions like the one Goldman produced last week...

They require far too many assumptions to be taken seriously. And they don't account for other factors - oil shocks and wars and other unforeseeable events, as well as inflationary policies.

The way to wealth is through identifying companies that are poised to grow revenue and earnings, capture market share, and become more profitable over time.

And in the most immediate future, the coming election could have a huge effect on your wealth.

[SaxxonWoods]

You can read as many “predictions” on the stock market as you have time to read. I just buy Buffet, a few high dividend stocks, a few market ETFs, Bonds and relax. If Bonds stop returning money above the rate of inflation I’ll look at real estate. Writing about stocks is a moneymaker, and it has no risk. No one will remember this prediction in 3 days.

[xoxox]

it was over a long time ago. viz: inflation.

[PeterPrinciple]

The bottom line: In deciding whether to go all-in on the S&P or diversify your stock investment more among value-oriented, smaller, and international companies, you are implicitly betting on one of those narratives.

---

place your bets.

I have invested in non woke “mutual fund”. My small protest.

https://acvetfs.com/

[Starboard]

“And in the most immediate future, the coming election could have a huge effect on your wealth.”

*************

No question about that. Favorable policies that promote business expansion and individual wealth creation can serve to lubricate economic growth. And there’s a good chance of that happening if Trump gets elected.

That said, the market is at a high valuation level right now and investors need to be mindful that returns are determined by the price you pay for something.

[Starboard]

“I just buy Buffet, a few high dividend stocks, a few market ETFs, Bonds and relax.”

************

I like your strategy. Holding some income producing assets can provide a “cushion” during market declines, and are icing on the cake when the market is rising.

[Flavious_Maximus]

That’s because the $trillion dollar federal reserve magic money printing is coming to an end. The spigot is being shut off and no longer debasing the currency.

This will cause inflation to go way down and restore the value of the dollar.

Wall Street billionaires and defense contractors will have to look elsewhere to fleece the American public. /spit

[JesusIsLord]

In his 2013 letter to Berkshire shareholders, Buffett shed light on the directives he has included in his will. “One bequest provides that cash will be delivered to a trustee for my wife’s benefit,” he wrote. “My advice to the trustee could not be more simple: Put 10% of the cash in short-term government bonds and 90% in a very low-cost S&P 500 index fund.”

[cgbg]

“high valuation level right now”

That is what I look at—imho the stock market is enjoying a bubble right now—a good time for folks who have made a lot of money in the market to declare victory....

and start selling.

Pigs get fat and hogs get slaughtered.

[plain talk]

“Holding some income producing assets can provide a “cushion” during market declines”

Yes. You can do that with Vanguard dividend index funds which have done reasonably well compared to the S&P500. I complement that with QQQ and other growth index funds.

A key point of this article seems to be that growth has been driven by a subset of companies invested in AI. I would counter that there will always be some version of that happening. Always problems needing to be solved.

Dem control provides a caustic environment but stock performance has continued despite dem efforts to destroy the economy. Stock performance has done surprisingly well under dem Presidents. But all bets are off if the dems secure overwhelming control of both branches of Congress.

In the end no one can predict the future and the market involves lots of risk and is not for everyone.

[Sequoyah101]

Sounds like an echo of what I just said to the walls of my study. Goldman must be figuring on a short. I have never acted on anything they say they way they suggest. Never regretted that either.

[Starboard]

“In the end no one can predict the future and the market involves lots of risk and is not for everyone.”

**************

Absolutely true. Great investors pay a lot of attention to valuation measures and profitability metrics (ROIC, free cash flow, etc) and they have the discipline to sell when those indicators deteriorate.

[fella]

Asking my broker’s advice

Me. “What should I do?”
Him. “Sell, sell, sell.”

Me. “What and are you going to do?”
Him. “Buy, buy, buy . . .”

[Jacquerie]

The Wall of Worry is my friend.