Is it time to invest in US equities?

Opportunities, like troubles, often come all bunched up. Even as the Indian stock markets have been correcting lately, US stock indices have started a fresh bout of declines. 

This has led smart investors to ask if they should be bargain-hunting US equities at this juncture. The answer depends on where the US economy and earnings are heading. But macro forecasts can go very wrong and we wouldn’t like to get into them. But we believe this call can be taken based on consensus forecasts and valuations. So here’s our assessment.

Is it time to invest in US equities?

Extent of correction

While many Indian investors rushed into US funds when US markets were soaring, a far better time to buy them is when there’s ‘blood on the street’, in Warren Buffett’s colourful words. Today, US stock markets are officially in bear territory. The broad market S&P 500 Index which peaked at 4818 levels in January 2022, has fallen 22.9% from that peak to trade at 3700 levels (as of September 29). The tech-heavy Nasdaq 100, the front-runner of the Covid bull run, is down 31.5% from its peak of 16764 and hovers at 11,490 levels. The manufacturing-heavy DJIA is down just short of 20% from its peak of 36952 and trades at 29680 levels.  

For perspective, during the dotcom bubble burst, the S&P 500 fell 25% from peak to trough. During the Global Financial Crisis, it fell 49% between October 2007 and March 2009. During the short but brutal crash just after the onset of Covid, it crashed 32% in March 2020, only to rebound swiftly. 

Compared to these occasions, there’s not much blood on the street now. In this year and the next, US equity investors also need to budget for the Fed hiking rates further, unwinding its balance sheet and a recession in GDP. Therefore, we can safely assume further declines in US equities are on the cards.

Where US macros are headed

The current stock market correction in the US has three main macro triggers – inflation, interest rates and the growth outlook. So it’s useful to see where these variables stand and where they’re expected to go.

#1 Inflation

Persistently high US inflation provided the first trigger for this correction, as it made it impossible for the US Fed to continue with its easy money policies. US Personal Consumption Expenditure (PCE) Inflation which was at 5% in October 2021 picked up to 6.1% by January 2022 and soared to 6.8% by June 2022 before abating a bit to 6.3% by August. CPI inflation readings for this period headed even higher to 8-9%. It was this runaway inflation that prompted the US Fed to rethink its near zero interest rates and QE policies from the beginning of this year. In its recent monetary policy reviews, the Fed has repeatedly reiterated that it will do what it takes to get inflation back to its comfort zone of 2%.

Given that current inflation readings are at 8% plus, this moderation may take time. In the latest September meeting, US Fed Board members forecast that PCE inflation would stay elevated at 5.4% through 2022, moderate to 2.8% by 2023, 2.3% by 2024 and get to 2% only by 2025.(https://www.federalreserve.gov/monetarypolicy/files/fomcprojtabl20220921.pdf)

Private forecasters like The Conference Board seem to believe that the cool-off in US inflation will take longer, with its prediction at 5.8% for 2022 and 3% for 2023. If these inflation trajectories come good, the US Fed will need to remain on a tightening spree until the end of 2023 at least, allowing for its policy actions to flow through with a lag to quell inflation.

#2 Interest rates

Higher interest rates are an automatic trigger to stock price falls because they reduce company earnings and set a higher bar on equity returns, de-rating valuations. In the past three policy meetings, the US Fed has consistently hiked its Fed Funds Target Rate by 75 basis points, a higher level than markets expected. After this hiking spree, the Fed Funds rate has moved from 0.25% in January 2022 to 3.25% now. The effective fed funds rate (the equivalent of India’s repo rate) has moved from 0.08% in January to over 3% now. But the Fed is far from done yet.

In the recent September meeting, Fed members forecast that they expect the Fed Funds rate to average 4.4% in 2022 and 4.6% in 2023, before receding to 3.9% in 2024 and 2.9% by 2025. This suggests that the peak of the US rate hiking cycle will be reached only next year. Market interest rates usually factor in when the Fed moves much ahead of the event and have moved up already. US 1-year treasury yields spiked to 4.1% on September 23, 2022 and have since cooled a bit. But the interest rate environment promises to remain hostile to equities until 2023 at least. 

Interest rates aside, an even bigger threat to US (and global) stock valuations arises from the Fed deciding to not just stop QE, but to reverse it to quell inflation. Today, thanks to over 15 years of QE, the Fed is sitting on an $8.8 trillion balance sheet. Should the Fed decide to sell bonds off its balance sheet to restore it to pre Covid levels, that can vacuum up a substantial part of not just US but also global financial market liquidity, posing a threat to all financial assets including bonds and equities. As the Fed balance sheet was at $4.3 trillion just before Covid, that’s a lot of liquidity that could flood out of financial markets, causing mayhem.

We should expect the US stock indices to continue with their two-way moves, because as each of these macro variables surprise or disappoint, market reactions are likely to be sharp. This suggests that Indian investors may get many opportunities to bottom-fish US stocks over this year and the next. There is no hurry to take all your US exposure right away.

#3 GDP growth

Slowing economic activity is obviously a negative for equities because slower growth, or recession impact demand and thus corporate revenues and earnings. Two sequential quarters of falling GDP are reckoned to be a technical recession. The US economy by this yardstick already reported a recession in Q1 and Q2 of 2022, with the GDP sequentially shrinking by 1.6% and 0.6% respectively. But year-on-year growth, at 3.5% and 1.7% was respectable with consumer spending and job markets displaying strength. 

Forecasters now expect a mild improvement in GDP in Q3, while predicting a return to ‘recession’ in Q4 2022 and Q1 2023. As a result, Fed members expect US’ overall real GDP growth at 0.2% in 2022, going up to 1.2% in 2023 and 1.7% in 2024, before stabilising at 1.8% in 2025 and thereafter. Therefore, if inflation behaves and the Fed sticks to its current plans, the recession threat may be over and done with by this year and the next. 

To summarise, if the macro variables do play out in line with the above predictions, we can expect: 

  • US inflation to peak out by the current quarter, but stay above Fed’s comfort zone until 2024
  • The Fed to hike rates until end 2023, until the Fed Funds rate hits 4.6%
  • The Fed to sell bonds and suck out liquidity from US and global markets beginning this year
  • A mild US recession to play out by Q1 2023, with a slow recovery thereafter  

This tells us why the road for US equities is likely to be rocky over this year and the next. We should expect the US stock indices to continue with their two-way moves, because as each of these macro variables surprise or disappoint, market reactions are likely to be sharp. This suggests that Indian investors may get many opportunities to bottom-fish US stocks over this year and the next. There is no hurry to take all your US exposure right away.

Earnings and Valuations

Stock markets tend to price in events much before they happen. Therefore, with all the above information in the public domain, the question is if US stock indices, by tumbling 20-31% in the past year, have already discounted them.  

The best way to gauge this is to see where US indices stand relative to their own historical valuation levels. Taking stock of PEs of the key indices, today’s valuations based on current earnings, are certainly not sky-high.

In fact, valuations have corrected very materially from super-heated levels of a year ago. Unlike narrower indices such as the Nasdaq100 or DJIA, the US S&P 500 is a broad market index with good cross representation across sectors. On a trailing PE basis this index is today trading quite close to its 10-year average of about 18 times. While this would suggest limited downside, the problem is that this 10-year average is in itself influenced by the low-rate-and- excess-liquidity effect.

This makes forward PE a more useful guide to gauging if US markets represent a value buy. Going by current consensus estimates, this is where S&P 500 earnings stand on a forward basis. The forward PE of 15.2 times suggests that a good part of the valuation de-rating is already in the price.

Now, studies looking at the history of US markets over 20-30 years (before Covid and QE) tell us that US indices have tended to bottom out at forward PEs of 13-15 times during past bear episodes triggered by the dotcom bubble burst, GFC and 9/11 attacks. Two useful articles here: 

https://www.schwab.com/learn/story/earnings-trampled-under-foot https://www.nasdaq.com/articles/where-will-the-bear-market-bottom-2-valuation-based-indicators-offer-a-clear-range

This would suggest that current levels at 15 times forward earnings are not a bad level to buy into US markets, via the S&P 500. But that valuation could easily spike up, if the ‘forward’ earnings for 2022 or even 2023 fail to materialise. Currently, most US analysts don’t seem to be seeing a big earnings collapse, even if recession comes by. This is based on the fact that, while US macros have gotten steadily worse in recent times, US companies have so far delivered relatively strong earnings. (For perspective, S&P 500 earnings grew at a 10.3% CAGR over the last 3 years, 11.6% over 5 years and 7.8% over 10 years.)

The aggregate dollar earnings of the US S&P 500 companies today stand at about $205 on a trailing 12-month basis. They were up by 23% over last year, as the Covid unlock propped up sales. But it is moot if the 10.2% growth in EPS by end of 2022 and a further 7.07% growth by 2023 can materialise if Fed’s rate hikes (and liquidity mopping) hit the mortgage markets and consumer spending, in turn affecting demand and job creation. Should recession turn out to be deeper or more prolonged than expected, that would lead to earnings cuts too. Here’s a simple scenario analysis of where the index could bottom out based on fundamentals, should the following situations play out on earnings.

Final takeaway

The answer to the question we raised at the beginning:

  • With the S&P 500 (at 3700) trading at about 15 times forward earnings, this is not a bad time to start nibbling in US equities.
  • But do not deploy all your money at once, as the next one year is crowded with adverse macroeconomic events. Plus, at the current PE, the US market is building in an optimistic view on earnings 
  • Budgeting for the economy or the earnings picture turning worse before it gets better, S&P 500 levels of between 2900-3400 could be good for fundamental investors to add exposure.
  • Whether it is in terms of growth outlook, inflation or central bank hawkishness, Indian equities today have better prospects than the US. Therefore, use US equities purely to benefit from the stronger dollar (which gains from Fed hikes and the flight to safety) and to invest in sectors/companies that have no parallels in India. Restrict the US exposure to 10-15% of your portfolio. Refer our article here for your choice of funds.

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33 thoughts on “Is it time to invest in US equities?”

  1. Very nice article indeed !Like you have given S&P 500 index levels range 2921-3455 based on earnings projections,could you give similar levels for NASDAQ 100,as there are more options to invest in it rather than SnP based index and ETF,which are under RBI restrictions.

  2. If FED raises rates, then chances of USD appreciation vis a vis Rupee increases, so if Indian investors buy US markets right now , I think downside is very limited in rupee terms

  3. What is the opinion on Navi Vanguard US Total Stock Market Fund? It is open for investors. Is it similar to S&P 500?

    1. We are not comfortable with NAVI as a fund house at present, given the group’s very limited record in the investing space. It is not similar to S&P 500. it has more companies and smaller ones and can be more volatile.

      1. If the mutual fund house just invests the money in the VTI Vanguard ETF, do we need to worry about the fund house? Are there any risk that will arise out of MF house in addition to the risk associated with the VTI ETF

        1. Compared to active funds risk of anything going wrong is lower. But fund house can delay deployment or manage inefficiently leading to high tracking error or difference .therefore yes it is better to look for seasoned amc even with Etfs or index funds

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General disclaimers: The recommendations made herein in the Research Services are expression of views and/or opinions and should not be deemed or construed to be advice for the purpose of purchase or sale of any security, nor a solicitation or offering on any investment/ trading opportunity on behalf of the company, AMC, insurance company, or issuer of security referred to herein.

The content and research reports generated by the RA does not constitute or is not intended to constitute an offer to buy or sell, or a solicitation to an offer to buy or sell financial products, units or securities.

The information/ opinion/ views mentioned in research reports or by the RA are not meant to serve as a professional guide to the client or recipients of this Report. The research report, recommendation, or any other content published by the RA do not assure or guarantee any minimum or fixed returns to the client or recipients of the reports/ recommendations/ content.

Use of this information is at the client’s own risk. The client must make his/ her own investment decisions based on his/her specific investment objective and financial position and using such independent advisors as he/she believes necessary. The services rendered by the RA are on a best-effort basis. All information in the content or research report of the RA is provided on an as is basis. Information is believed to be reliable but the RA does not warrant its completeness or accuracy and expressly disclaim all warranties and conditions of any kind, whether express or implied.

While due care has been taken to ensure that the disclosures, information, and opinions given are fair and reasonable, PrimeInvestor Financial Research Pvt Ltd and/or none of its officers, directors, partners, employees, agents, subsidiaries, affiliates or business associates shall be liable for any direct, indirect, special, incidental, consequential, punitive or exemplary damages, including lost profits arising in any way whatsoever from the information/ opinions/ views contained in the research report and recommendations that form part of the Research Service, and/or mails, social media or notifications issued by PrimeInvestor Financial Research Pvt Ltd or any other agency appointed/authorised by PrimeInvestor Financial Research Pvt Ltd. Returns and performance figures mentioned in the research report represent past performance and should not be constituted to be future returns or guaranteed returns.

Any agreements, transactions or other arrangements made between the client and any third party named on (or linked to from) the Website are at your own responsibility and entered into at your own risk. Any information that you receive via the Website, whether or not it is classified as “real time”, may have stopped being current by the time it reaches you. Market price information may be rounded up/down and therefore may not be entirely accurate.

The purpose of these disclosures is to provide essential information about the Research Services in a manner to assist and enable the prospective client/client in making an informed decision for engaging in Research Services before onboarding.

History, present business and background: PrimeInvestor Financial Research Private Limited is registered with SEBI as Research Analyst with registration no. INH200008653. The Research Analyst got its registration on August 19, 2021 and is engaged in offering research and recommendation services.

Disciplinary history: There are no pending material litigations or legal proceedings against the Research Analyst. As on date, no penalties / directions have been issued by SEBI under the SEBI Act or Regulations made thereunder against the Research Analyst relating to Research Analyst services.

Details of the RA's associates: No associates.

Usage of Website Content: This Website is controlled and operated by the RA. All material, including research reports, recommendations, portfolios, ratings, lists of financial products, illustrations, statements, opinions, views, photographs, products, images, artwork, designs, text, graphics, logos, button icons, images, audio and video clips and software (collectively, “Content”) are protected by copyrights, trademarks and other intellectual property rights that are owned and controlled by the RA or by other parties that have licensed their material to us.

Except where otherwise agreed in writing with the RA, material on the Website is solely for the client’s personal, non-commercial use. Except as provided below, the client must not copy, reproduce, republish, upload, post, transmit or distribute such material in any way, including by e-mail or other electronic means and whether directly or indirectly and the client must not assist any other person to do so.

Without the prior written consent of the RA, modification of the materials, use of the materials on any other web site or networked computer environment or use of the materials for any purpose other than personal, non-commercial use is a violation of the copyrights, trademarks and other proprietary rights, and is prohibited. Any use for which the client receives any remuneration, whether in money or otherwise, is a commercial use for the purposes of these Terms.

The client may occasionally distribute a copy of a research report, or a portion of the same, from the Website in non-electronic form to a few individuals without charge, provided the client includes all copyright and other proprietary rights notices in the same form in which the notices appear, original source attribution, and the phrase “Used with permission from PrimeInvestor Financial Research Pvt. Ltd.”

While the client may occasionally download and store research reports or information from the Website for his/her personal use, he/she may not otherwise provide others with access to the same. The foregoing does not apply to any sharing functionality we provide through the Website that expressly allows the client to share Content or links to Content with others. In addition, the client may not use Content he/she has downloaded for personal use to develop or operate an automated trading system or for data or text mining.

The client agrees not to rearrange or modify the Content available through the Website. The client agrees not to display, post, frame, or scrape the Content for use on another website, app, blog, product or service, except as otherwise expressly permitted by these Terms. You agree not to create any derivative work based on or containing the research products and Content. The framing or scraping of or in-line linking to the Services or any Content contained thereon and/or the use of webcrawler, spidering or other automated means to access, copy, index, process and/or store any Content made available on or through the Services other than as expressly authorized by us is prohibited.

The client further agrees to abide by exclusionary protocols (e.g., Robots.txt, Automated Content Access Protocol (ACAP), etc.) that may be used in connection with the Research Services. The client may not access parts of the Research Services to which he/she is not authorized, or attempt to circumvent any restrictions imposed on your use or access of the Services.

As a general rule, the client may not use the Content, including without limitation, any Content made available through one of our RSS Feeds, in any commercial product or service, without our express written consent.

The client may not create apps, extensions, or other products and services that use our Content without our permission. The client may not aggregate or otherwise use our Content in a manner that could reasonably serve as a substitute for a subscription to the Website.

The client may not access or view the Services with the use of any scripts, extensions, or programs that alter the way the Services are displayed, rendered, or transmitted to you without our written consent.

The client agrees not to use the Services for any unlawful purpose. We reserve the right to terminate or restrict the client's access to the Website if, in our opinion, the client's use of the Services may violate any laws, regulations or rulings, infringe upon another person's rights or violate these Terms.

Prohibited content: The Website includes comments sections, blogs and other interactive features that allow interaction among clients and between clients and the RA. We call the information posted by or contributed by users “Contributed Content.” In the course of availing of the Research Services or uploading any post or comment on the Website, the client shall not post any Contributed Content that (i) contains nude, semi-nude, sexually suggestive photos, (ii) tends or is likely to abuse, harass, threaten, impersonate or intimidate other users of the Website and/or Research Services, (iii) is lascivious or appeals to the prurient interest or if its effect is such as to tend to deprave and corrupt persons who are likely to use or have access to the Website and/or Services, or (iv) otherwise violates, is prohibited or restricted by applicable law, rule or regulation, is offensive or illegal or violates the rights of, harms or threatens the safety of other users of the Website and/or Services (collectively “Prohibited Content”).

We reserve the right to cease to provide the client with the Research Services or access to the Website, or terminate your subscription, with immediate effect and without notice and liability, for violating these Terms, applicable law, rules or regulations and reserves the right to remove Prohibited Content which is in violation of these Terms, or is otherwise abusive, illegal or disruptive. The determination of whether any content constitutes Prohibited Content, violates these Terms, or is otherwise abusive illegal or disruptive, is subject to the sole determination of the Firm.

Changes to Research Services: We are constantly endeavouring to improve the quality of Research Services provided to our clients. Due to this, the form and nature of the Research Services provided may change from time to time without any prior notice to the client. We reserve the right to introduce and initiate new features, functionalities, components to the Website and/or Research Services and/or change, alter, modify, or discontinue existing ones without any prior notice to the client.

Warranty and liability disclaimer: The Website, Research Services, and all the materials and services, included on or otherwise made available to the client through this Website is provided by the RA on an “as is” and “as available” basis without any representation or warranties, express or implied except otherwise specified in writing. Without prejudice to the foregoing paragraph, the RA does not warrant that:

  • This Website and/or Research Services will be constantly available, or available at all;
  • The information on this Website or provided through the Research Services is complete, true, accurate or not misleading; or
  • The quality of any products, services, information, or other material that you obtain through the Website or Services will meet your expectations.

The RA, to the fullest extent permitted by law, disclaims all warranties, whether express or implied, including the warranty of merchantability, fitness for particular purpose and non-infringement. The RA makes no warranties about the accuracy, reliability, completeness, or timeliness of the Website, Research Services, Content, Contributed Content, Services, software, text, graphics and links.

The RA does not warrant that this Website, Research Services, information, content, materials, or any other material included on or otherwise made available to you through this Website, their servers, or electronic communication sent by the RA are free of viruses or other harmful components.

Nothing on this Website constitutes, or is meant to constitute, advice of any kind.

Indemnification: The client:

  1. Represents, warrants and covenants that no materials of any kind provided by him/her will:
    1. Violate, plagiarise, or infringe upon the rights of any third party, including copyright, trademark, privacy or other personal or proprietary rights; or
    2. Contain libellous, Prohibited Content or other unlawful material;
  2. Hereby agree to indemnify, defend and hold harmless the RA and all of the RA’s officers, directors, owners, agents, customers/clients, information providers, affiliates, licensors and licensees (collectively, the “Indemnified Parties”) from and against any and all liability and costs, including, without limitation, reasonable advocate’s fees, incurred by the Indemnified Parties in connection with any claim arising out of any breach by the client of these Terms or the foregoing representations, warranties and covenants. The client shall cooperate as fully as reasonably required in the defence of any such claim. The RA reserves the right, at its own expense, to assume the exclusive defence and control of any matter subject to indemnification by the client.

Applicable law: This Website, including the Content and Contributed Content and information contained herein, and the provision of Research Services shall be governed by the Securities and Exchange Board of India, laws of the Republic of India and the courts of Chennai, India which shall retain exclusive jurisdiction to entertain any proceedings in relation to any disputes arising out of the same. As such, the laws of India shall govern any transaction completed using this Website.

Information gathered and tracked: Information submitted or collected on the Website or pursuant to the use of the Services is stored in a database. Specifically, we store the username, name, e-mail address, contact number, as submitted or collected on our Website or through the provision of the Research Services. We may use such information to send out occasional promotional materials, including alerts on new Services available, or other promotional and marketing material relating to our clients and customers.

In accordance with the Information Technology Act 2000, the name and the details of the Grievance Officer at PrimeInvestor is provided below:

Mr. Srikanth Meenakshi
PrimeInvestor Financial Research Pvt. Ltd., Registered office: 659, 4th Avenue, D-Sector, Anna Nagar Western Extension, Chennai 600 101.
Email: [email protected]

11. Mandatory notice:

Clients shall be requested to go through Do’s and Don’ts while dealing with RA as specified in SEBI master circular no. SEBI/HO/MIRSD-POD-1/P/CIR/2024/49 dated May 21, 2024 or as may be specified by SEBI from time to time.

12. Optional Centralised Fee Collection Mechanism:

SEBI has operationalized a centralized fee collection mechanism for IA and RA. Under this mechanism, clients shall pay fees to IAs/RAs through a designated platform/portal administered by a recognized Administration and Supervision body. This is an optional mechanism for the registered entities. At this time, PrimeInvestor has opted out of this fee collection mechanism. Therefore, all subscription payments for the Research Services will be through the modes as specified in Clause 5 of these Terms.

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