The rise in the S&P 500 in 2024 has been one of the strongest since 1928. The current equity upswing began in October 2023, driven by optimism in peak inflation and the prospect of a US Federal Reserve ‘pivot’. Since then, the MSCI world index is up nearly 40% in price terms and around 60% since the trough triggered by rising interest rates in Oct 2022. The Nasdaq has climbed over 50% and the world’s biggest company, Nvidia, has surged 264%.
This spectacular return has, in part, been driven by profit growth. But around half of the equity return globally in 2024 has come from valuation expansion, driven by growing optimism in lower inflation and interest rates.
Calendarized S&P 500 performance since 1928
Source: Goldman Sachs
The baseline forecast for the US includes solid growth, cooling inflation, and non-recessionary rate cuts, alongside a range of policies driven by the Trump administration that are likely to be friendly to corporate earnings. While the US is a clear outperformer, non-US economies still see stable growth, falling inflation, and monetary easing. This backdrop provides a friendly risk asset backdrop, alongside US outperformance.
For the US equity market, the 12-month forward price-to-earnings ratio (PE) is well above its previous 20-year high and mean. While this is partly explained by the higher valuation of mega-cap technology companies, the US equity market is still trading at close to record valuations even if these companies are excluded. Furthermore, the stretched valuation in the US equity market is reflected across most standard valuation metrics, with the median ‘absolute valuation metric’ in the 97th percentile compared with history.
While the outlook remains constructive, prudent investors will recognise that “a risk friendly asset backdrop” is no guarantee of positive future returns and that now is an opportune time to reconsider one’s asset allocation and perhaps bank some of the gains already made.
Source: Goldman Sachs
The expansion of PE ratios in this bull market has pushed valuations of equities (as well as credit) to historically high levels, particularly in the US. Outside of the US, while absolute valuations are lower, valuations have increased throughout 2024, and even weaker economies facing greater structural headwinds (like Europe and China) have seen their stock markets enjoying a sharp re-rating since the Q4 2023 trough, leaving them broadly in line with long-run averages.
We are entering a benign part of the cycle; interest rate cuts that coincide with economic growth tend to be supportive of equities.
Nevertheless, global equities have already risen 40% since October 2023 leaving them more vulnerable to any disappointments.
Equity valuations have increased and leave little room for further valuation expansion. We expect index returns to be driven largely by earnings growth.
Given high valuations and unusually high concentration in equity markets, we recommend a focus on diversification to improve risk-adjusted returns.
All regions have experienced a rise in valuation metrics
Source: Goldman Sachs
