“
”Markets in Focus
Timely analysis of market moves and sectors of opportunity
The U.S. economy and equities defied expectations through most of 2024, but the market’s mood changed in December.
Watch for this shift to foreshadow a higher-volatility bull market in 2025.
Keep an eye on earnings growth and the other fundamentals that have been the foundation of the equity market’s strength.
Heading into 2024, consensus was predominantly bearish. Investors broadly expected a U.S. recession and roughly seven interest rate cuts. Instead, consumer spending didn’t falter. Corporate earnings held up. Capital expenditures (capex) related to artificial intelligence continued and even accelerated.
Whether responding to high valuations, a concentrated market, or fears of an economic slowdown, investors who sat out to avoid the downside in 2024 ended up missing out on the upside, said Joey Del Guercio, Market Strategy Research Associate at Raymond James Investment Management.
With two trading days remaining in the year, the S&P 500 is up 25.18% in 2024. That would be its:
best year since 2021 (26.89%),
26th best year since World War II,
fifth-best year of this millennium, and
the first time since the 1990s when the index returned more than 20% two years in a row. It’s worth mentioning that the S&P 500 actually had four 20% years in a row from 1995 to 1998, and 1999’s 19.53% return almost brought that streak to five.1
“This market is not in uncharted waters, and there’s scope for equities to continue higher,” Del Guercio said. “Don’t forget that the average bull market returns 181% over 1,921 days, and that currently the S&P 500 is up 67% so far over the past 807 days. I can certainly sympathize with the fact that it’s hard to stomach buying at the peak of the market, especially when it feels like the index has been defying gravity, but I believe the fundamental backdrop for equities remains constructive and the path of least resistance continues to be higher.”
While 2024 has been an extraordinary year for equities, Del Guercio said December has felt like a mood change. The expansion of breadth stalled, and post-election “Trump trade” winners such as small caps and financials have given up all or most of their gains and are trading at pre-election levels. The December Federal Open Market Committee meeting reflected the change with a 25-basis point interest rate cut, hawkish commentary teeing up a pause in January, and two cuts on the summary of economic projection’s dot plot. U.S. Federal Reserve (Fed) Chair Jerome Powell seemed more uncomfortable than usual; there was dissent among the committee about whether to cut (i.e., for the first time since 2022, this cut was not a unanimous vote); and despite Powell saying previously that the committee wasn’t factoring in the incoming Trump administration’s expected policies, he acknowledged that “we expect significant policy changes” and that they are “thinking about these questions.” But Del Guercio said the S&P 500 plummeting -2.95% for its worst Fed day since 2001 — which was the Fed’s emergency meeting following the 9/11 attacks — felt like an overreaction.
“This felt like a ‘sell the news’ event as investors got what is probably the last cut for the time being and locked in some of their 2024 gains,” he said. This was exacerbated by the Fed’s surprising acknowledgement of the uncertainty that future policy injects into forecasts. Even though December’s usual “best month of the year” seasonality didn’t materialize this year, Del Guercio noted that 2024’s Santa Claus rally is shaping up to be better than average.
Del Guercio said December’s mood change likely foreshadows what we can expect going forward: a higher-volatility bull market underscored by “known unknowns.” The labor market could weaken, spelling recession. Index valuations are high. Indices are concentrated. Inflation could reaccelerate from future policy initiatives or already embedded growth. One of the wars could prove contagious. Trump could tweet something. It’s very likely that 2025 brings more bouts of volatility than we had in 2024, he said, but he believes these likely don’t affect the fundamentals that are grounding this bull market. The S&P 500 is expected to post nearly 15% earnings per share (EPS) growth in 2025, accelerating from 2024’s growth of about 10%. The outlook for breadth expansion is positive with the majority of 2025’s EPS growth coming from the S&P 493 (+13% year-over-year) instead of the Magnificent Seven (+21%). Net profit margins are expected to expand to 13% in 2025 from 2024’s already high 12%. Artificial intelligence (AI) applications offer further reason for optimism, he said. While rates might be higher for longer, investors can take solace in the fact that it’s highly unlikely we see any interest rate hikes next year.
“Be ready for headlines to move markets,” Del Guercio said. “Don’t be unprepared and panic. Think about preparing for and welcoming them as potential buying opportunities.”
With three days to go, 2024’s Santa Claus rally is better than average
S&P 500 returns during the last five trading days of the year and the first two of the next year
Source: Bloomberg, as of 12/27/2024.
S&P 500 EPS and revenue growth are expected to accelerate
S&P 500 historical EPS and revenue growth and 2024/2025 forecasts
Source: FactSet, as of 12/20/2024.
The recent near government shutdown reflects many elements of the policy uncertainty to come, Del Guercio said. Given the prospect of heightened volatility going forward, he believes investors may want to consider building diversification in their portfolios, to think about using downside opportunistically to build long-term positions in this high-volatility bull market, to evaluate the potential of using quality and profitability to inform investment decisions, and to assess whether to position for breadth’s expansion both across sectors and down the market-cap spectrum. He favors seeking growth at a reasonable price (GARP) and considering select momentum names such as AI plays that have reset in December. His list of areas to focus on includes:
Small caps. While small caps have given up nearly all of their gains following the U.S. election, this stratum of equities continues to make higher highs and higher lows. Sentiment is turning around, exemplified by the last National Federation of Independent Business Small Business Optimism Index. The next earnings season is expected to showcase the Russell 2000® Index’s first quarter of positive year-over-year EPS growth for the first time in years, and estimates anticipate that 2025 will show the index post EPS growth outpacing the S&P 500. Small caps remain historically inexpensive relative to large caps.
Cyclicality. Like small caps, cyclicals have given up most of their post-election gains. The U.S. economy continues to surprise to the upside, and the next administration’s expected pro-growth agenda could continue to support cyclicals, Del Guercio said. Within the cohort, financials remain attractive given their exposure to capital markets where mergers and acquisitions (M&A) and initial public offering (IPO) activity could pick up from a new Federal Trade Commission regime and deregulation broadly. Financials are also expected to post the highest EPS growth within the S&P 500 in the coming fourth-quarter earnings season at approximately 40% year-over-year versus the next best’s growth of about 20% for communications services. Additionally, industrials are worth watching given their exposure to defense, artificial intelligence capex spending, and U.S. manufacturing and construction broadly.
Megacaps. They’re called the Magnificent Seven for a reason, Del Guercio said. The top of the index contains some of the biggest beneficiaries of AI with growth as open-ended as the internet’s was in the 1990s. While not completely homogenous, the high quality of the Magnificent Seven is exemplified by robust free cash flow margins, strong credit profiles, and standout EPS growth.
1 Unless otherwise indicated, all data cited is sourced from Bloomberg as of Dec. 27, 2024.
Risk Information:
Investing involves risk, including risk of loss.
Diversification does not ensure a profit or guarantee against loss.
Disclosures:
Index or benchmark performance presented in this document does not reflect the deduction of advisory fees, transaction charges, or other expenses, which would reduce performance. Indexes are unmanaged. It is not possible to invest directly in an index. Any investor who attempts to mimic the performance of an index would incur fees and expenses that would reduce return.
This document is a general communication being provided for informational purposes only. It is educational in nature and not designed to be taken as advice or a recommendation for any specific investment product, strategy, plan feature, or other purpose in any jurisdiction, nor is it a commitment from Raymond James Investment Management or any of its affiliates to participate in any of the transactions mentioned herein. Any examples used are generic, hypothetical, and for illustration purposes only. This material does not contain sufficient information to support an investment decision, and you should not rely on it in evaluating the merits of investing in any securities or products. In addition, users should make an independent assessment of the legal, regulatory, tax, credit, and accounting implications and make their own determinations together with their own professionals in those fields. Any forecasts, figures, opinions, or investment techniques and strategies set out are for information purposes only, based on certain assumptions and current market conditions, and are subject to change without prior notice. All information presented herein is considered to be accurate at the time of production, but no warranty of accuracy is given and no liability in respect of any error or omission is accepted. It should be noted that investment involves risks, the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements, and investors may not get back the full amount invested. Both past performance and yields are not reliable indicators of current and future results.
The views and opinions expressed are not necessarily those of the broker/dealer or any affiliates. Nothing discussed or suggested should be construed as permission to supersede or circumvent any broker/dealer policies, procedures, rules, and guidelines.
Sector investments are companies engaged in business related to a specific sector. They are subject to fierce competition and their products and services may be subject to rapid obsolescence. There are additional risks associated with investing in an individual sector, including limited diversification.
Investing in small cap stocks generally involves greater risks, and therefore, may not be appropriate for every investor. The prices of small company stocks may be subject to more volatility than those of large company stocks.
International investing presents specific risks, such as currency fluctuations, differences in financial accounting standards, and potential political and economic instability. These risks are further accentuated in emerging market countries where risks can also include possible economic dependency on revenues from particular commodities or on international aid or development assistance, currency transfer restrictions, and liquidity risks related to lower trading volumes.
Definitions
Basis points (bps) are measurements used in discussions of interest rates and other percentages in finance. One basis point is equal to 1/100th of 1%, or 0.01%.
Breadth describes the relationship between the median and the mean of a market index. When a few data outliers result in a mean that is substantially larger (or smaller) than the median of the full data set, then the performance of the entire index is being driven by a “narrow” selection of companies. An index supported by “broad” market movements is one where the median is closer to the mean. Market breadth is said to narrow when a smaller number of more extreme outliers drive the mean of an index further from its median.
Capital expenditures, or capex, are monies used by a company to buy, improve, or maintain physical assets such as real estate, facilities, technology, or equipment, and may include new projects or investments.
Concentration is a term used to describe the extent to which investments in a portfolio, group of portfolios, industry, sector, index, or particular geography or clustered in groups that share specific factors or other characteristics.
A consensus estimate is a forecast of a public company’s projected earnings, the results of a particular industry, sector, geography, asset class, or other category, or the expected findings of a macroeconomic report based on the combined estimates of analysts and other market observers that track the stock or data in question.
Cyclical stocks have prices influenced by macroeconomic changes in the economy and are known for following the economy as it cycles through expansion, peak, recession, and recovery.
The dot plot is a chart summarizing the Federal Open Market Committee’s (FOMC) outlook for the federal funds rate. Each dot represents the interest rate forecasted by one of the 12 members of the committee.
Earnings per share (EPS) is calculated as a company’s profit divided by the outstanding shares of its common stock. The resulting number serves as an indicator of a company’s profitability.
The Federal Open Market Committee (FOMC) consists of 12 members: the seven members of the Board of Governors of the Federal Reserve System; the president of the Federal Reserve Bank of New York; and four of the remaining 11 Reserve Bank presidents, who serve one-year terms on a rotating basis. The FOMC holds eight regularly scheduled meetings per year at which it reviews economic and financial conditions, determines the appropriate stance of monetary policy, and assesses the risks to its long-run goals of price stability and sustainable economic growth.
Growth investing is a stock-buying strategy that focuses on companies expected to grow at an above-average rate compared to their industry or the market.
Growth at a reasonable price (GARP) is a stock investment strategy that seeks to combine tenets of both growth and value investing in the evaluation and selection of individual stocks. GARP investors look for companies with consistent earnings growth above broad market levels but try to avoid companies with very high valuations. By trying to avoid the extremes of either growth or value investing, GARP investors often end up focusing on growth-oriented stocks with relatively low price-to-earnings multiples in normal market conditions.
Hawkish, dovish, and centrist are terms used to describe the monetary policy preferences of central bankers and others. Hawks prioritize controlling inflation and may favor raising interest rates to reduce it or keep it in check. Doves tend to support maintaining lower interest rates, often in support of stimulating job growth and the economy more generally. Centrists tend to occupy the middle of the continuum between tight (hawkish) and loose (dovish) monetary policy.
Known unknowns refer to identified areas of potential risk with uncertainty surrounding the timing, scope of impact, or path of development for those risks.
The Magnificent Seven refers to the seven largest stocks by market capitalization in the S&P 500 Index, as of Dec. 29, 2023. Collectively they made up more than 25% of the market capitalization of the entire index. They are Alphabet, Amazon.com, Apple, Meta Platforms, Microsoft, NVIDIA and Tesla.
Market capitalization, or market cap, refers to the total dollar market value of a company’s outstanding shares of stock.
Mega-cap stocks are the largest publicly traded companies as measured by market capitalization. Generally, this refers to companies with market capitalizations over $200 billion.
Momentum investing is a strategy that aims to capitalize on the continuance of an existing market trend. It is a trading strategy in which investors buy securities that are already rising and look to sell them when they look to have peaked. It entails taking long positions on financial instruments with prices trending up and short positions on instruments with prices trending down.
The National Federation of Independent Business’s Small Business Optimism Index surveys small and independent business owners on 10 equally weighted and seasonally adjusted variables, including their hiring, investment, and inventory plans, as well as on their economic expectations, assessment of the state of the economy, labor market, credit conditions, and earnings trends. The monthly change of each variable contributes proportionally to the overall monthly change in the index.
A net profit margin, often shortened to net margin, measures how much net income or profit a company generates as a percentage of revenue. It can be expressed as a percentage or a decimal.
Quality investing is a strategy that seeks to invest in companies with low debt, stable earnings, consistent asset growth, and strong corporate governance, as reflected in financial metrics such as ratios of return to equity and debt to equity, as well as to earnings variability.
The S&P 493 refers to the constituents of the S&P 500 Index outside of the seven largest companies by market capitalization.
A Santa Claus rally refers to the tendency of the S&P 500 Index to see gains during the last five trading days in December of a given calendar year and in the first two trading days in January of the following year.
Seasonality refers to predictable changes that occur over a one-year period in a business, market, market sector, or economy based on the season, including calendar or commercial seasons.
“Sell the news” is part of a common saying in securities trading: “Buy the rumor. Sell the news.” Traders who focus on news try to make profits through timely trading that anticipates or reacts to news about a company or other market-moving development.
The summary of economic projections is produced following meetings of the Federal Open Market Committee and includes meeting participants’ projections of the most likely outcomes for real gross domestic product growth, the unemployment rate, and inflation for a forward-looking three-year window and over the longer run.
Trump trade refers to the expectation that policies and actions of the Trump administration could benefit certain areas of the capital markets.
Indices
The S&P 500 Index measures change in stock market conditions based on the average performance of 500 widely held common stocks. It is a market-weighted index calculated on a total return basis with dividend reinvested. The S&P 500 represents approximately 80% of the investable U.S. equity market.
The Russell 2000® Index measures the performance of the 2,000 smallest companies in the Russell 3000® Index, which represents approximately 7% of the total market capitalization of the Russell 3000® Index.
London Stock Exchange Group plc and its group undertakings (collectively, the “LSE Group”). ©LSE Group 2024. FTSE Russell is a trading name of certain of the LSE Group companies. Russell® is a trademark of the relevant LSE Group companies and is used by any other LSE Group company under license. All rights in the FTSE Russell indexes or data vest in the relevant LSE Group company which owns the index or the data. Neither LSE Group nor its licensors accept any liability for any errors or omissions in the indexes or data and no party may rely on any indexes or data contained in this communication. No further distribution of data from the LSE Group is permitted without the relevant LSE Group company’s express written consent. The LSE Group does not promote, sponsor, or endorse the content of this communication.
M-661274 Exp. 4/30/2025
After a strong November for stocks broadly, December has not been as constructive.
Many investors believe that the fundamental backdrop has room to keep improving, but they also harbor some concerns.
The lack of pervasive optimism may actually be positive, and market weakness may create potential opportunities for investors considering building diversification in the year ahead.
After meeting with clients over the past two weeks, Chief Market Strategist Matt Orton, CFA, finds that sentiment heading into 2025 is moderately bullish — certainly less extremely optimistic than he expected.
While many investors believe that the fundamental backdrop has room to keep improving, especially if pro-growth policies are implemented, there are two main areas of concern:
Valuations and concentration in U.S. markets, and
Uncertainty with respect to inflation and how fiscal policy and tariffs could challenge further progress.
“These are certainly valid concerns, and ones I consider to be ‘known unknowns’ likely to lead to increased volatility next year,” Orton said. “But I do not believe these unknowns will derail the strong underlying fundamentals of the market: A continued expansion of earnings breadth that could lead to a sustained increase in breadth in prices across the market.”
Orton said he found the lack of pervasive optimism somewhat encouraging, and it makes him slightly less concerned about overly bullish sentiment. Last week’s crushing of momentum and narrowing market breadth flushed out some weaker hands in the market, he said, and a pullback across many of the overbought Trump trade beneficiaries has been overdue.1 Any further weakness across the market of stocks could create what he sees as potential opportunities for investors considering whether to diversify heading into next year.
“I prefer maintaining a balance between growth and value, leaning into higher-quality businesses, and expanding positioning down the market capitalization spectrum in search of exposure to small- and mid-cap companies,” he said. “I believe it’s going to be all about better balance and diversification in 2025.”
After such a strong November for the market — particularly for average stocks in the S&P 500 Index — December has not been as constructive. While the S&P 500 Index is marginally positive in December (up 0.4%), the S&P 500® Equal Weight Index is down 2.9%, and the Russell 2000® Index is down 3.5%. This coincides with a reversal in interest rates and more focus on stronger economic data and signs of stickier inflation.
There have been more decliners than advancers every day of December
S&P 500 Index year-to-date
Source: Bloomberg, as of 12/13/24.
This week also brings the last Federal Open Market Committee (FOMC) meeting of the year, where Orton expects a hawkish cut. He anticipates that the FOMC’s forecasts will probably show a higher estimate for the neutral rate of interest and mildly higher near-term inflation and growth projections.
“The move in rates reflects this, but the key message for investors is that the U.S. economy appears to be well on course for a smooth and soft landing,” he said. “This would support continued earnings growth next year, and I believe it would also support the prospect of small-cap outperformance. I would use any further weakness across the broader market of stocks, or down the market-capitalization spectrum, to consider adding some exposure.”
The resilience of mega-cap stocks last week also brought concentration risk into focus, which is a key concern for investors. But Orton noted that concentration risks are nothing new, and he believes that growing concentration is largely attributable to fundamentals.
From a domestic perspective, the historic winners in the U.S. equity market have been a narrow basket of mega-cap tech companies, but Orton said he would argue that their strength, especially coming out of 2022, has been largely due to earnings growth. And as the earnings-per-share growth has inflected higher for the S&P 493 — the S&P 500 minus its seven largest stocks by market capitalization — we have seen strength across the broader market. Average stocks in the S&P 500 have enjoyed strong relative performance in the second half of the year, and small caps, as represented by the Russell 2000 Index, have outperformed the S&P 500 by nearly 4%.
From an international perspective, concentration also is nothing new. U.S. stocks now make up more than 72% of the MSCI World index, up from 69% one year ago and 56% a decade ago. However, the strong U.S. performance relative to the rest of the world isn’t just a mega-cap phenomenon, Orton said: The average stock in the United States has also meaningfully outperformed over the past few years. Again, Orton contends that this is largely due to fundamentals and growth characteristics.
“While I typically encourage investors to consider maintaining a core U.S. overweight in portfolios that are suited for their individual situations, I believe there are overseas opportunities to be selective in ways that can help diversify portfolios,” he said. “The global benchmarks hide the strength of certain overseas markets.”
It’s also likely that we see more interest rate cuts in Europe than in the United States, which would benefit the European market. Orton said adjustments to the target return for Japan’s Government Pension Investment Fund could spur more investment in equities, which when coupled with improving earnings growth and infrastructure investments, could create opportunities for equity investors to consider in Japan.
Momentum was crushed early last week, and the S&P 500 notched its ninth consecutive day of narrowing breadth. Interest rates also pushed higher, weighing on small caps in particular. Wednesday’s FOMC meeting will likely be a major catalyst; once investors hear from U.S. Federal Reserve (Fed) Chair Jerome Powell and see the updated summary of economic projections (SEP), the market may be able to take a sigh of relief and return to focusing on fundamentals. Orton’s key themes for 2025 include:
Small- and mid-caps. After years of poor performance, Orton said it looks like the relative performance of small-versus-large has troughed. With rates coming down, ongoing economic resilience, and considering where small caps are in the earnings cycle, he sees reasons to be optimistic. He said the outlook for the U.S. economy, coupled with tailwinds from expected Trump administration deregulation and clarity around the possibility of tax-cut extensions, could benefit smaller companies. Improving earnings could also get a boost from easy comparisons to previous periods. Small-cap earnings are expected to finally accelerate higher in 2025. Flows into the space have been anemic, but they are starting to pick up. Orton said that the money flowing into small caps could have an outsized price impact due to the relative illiquidity of small-cap stocks, and he believes that money will chase performance.
Cyclicals.The strength of the U.S. economy has boosted more economically sensitive sectors in the second half of this year, and Orton expects this trend to continue in 2025. In particular, he believes the outperformance of banks can continue, especially those levered to increased deal flow. Additionally, insurance companies have lagged the outperformance of banks, but they have strong fundamentals. Orton thinks “this gap is likely to close a bit in 2025.” Software companies could also take the performance torch from semiconductors in 2025 given their prospects for strong profitability and less constrained technology budgets put to work increasing cybersecurity and employee productivity. Among industrials, Orton continues to favor electric equipment companies that are levered to the buildout of data centers. Capital expenditure beneficiaries like machinery and construction companies, and companies that trade and distribute materials, could also outperform, he said.
Selective diversification opportunities overseas. While the United States remains Orton’s core area to consider being overweight, he said there are certainly opportunities for international equities given the widest performance discrepancy on record. There are positive fundamental trends in countries like Japan and India, he said, and banks in Asia and in countries on the periphery of Europe also have been performing “quite well.” Thinking about adding some international exposure could also help diversify an investment portfolio, and it could provide a hedge against potentially better than expected growth overseas, he said. Valuations abroad are priced for destruction — as if companies were teetering on the verge of collapse — while many companies in the United States are priced for perfection, so Orton said it makes sense not to ignore potential opportunities abroad.
Playing offense with defense. Orton has advocated for considering defense industry companies, and he said he still likes aerospace and defense companies, especially those that focus on either software or providing security solutions for domestic law enforcement. The belligerent threat environment persists, and Orton said many NATO members are likely to continue increasing defense spending in the future, even if there is an eventual ceasefire between Russia and Ukraine. He sees many global defense companies as higher-quality with positive cash flows, improving earnings, and strong management teams. Again, he said, thinking about being selective is important, but he still believes the defense space could offer some good opportunities for investors considering how to diversify portfolios and hedge geopolitical risk, subject to each investor’s individual situation.
The Fed’s final monetary policy rate decision will come on Wednesday, followed on Thursday by decisions from the Bank of Japan and the Bank of England. Expectations are nearly universal in predicting another 25-basis point cut from the Fed, though Orton said recent inflation data makes it likely we see more hawkish commentary around the future path of cuts.
The week also brings U.S. retail sales data, third-quarter growth for U.S. gross domestic product (GDP), and personal income data for November.
1 Unless otherwise indicated, all data cited is sourced from Bloomberg as of Dec. 13, 2024.
Risk Information:
Investing involves risk, including risk of loss.
Diversification does not ensure a profit or guarantee against loss.
Disclosures:
Index or benchmark performance presented in this document does not reflect the deduction of advisory fees, transaction charges, or other expenses, which would reduce performance. Indexes are unmanaged. It is not possible to invest directly in an index. Any investor who attempts to mimic the performance of an index would incur fees and expenses that would reduce return.
This document is a general communication being provided for informational purposes only. It is educational in nature and not designed to be taken as advice or a recommendation for any specific investment product, strategy, plan feature, or other purpose in any jurisdiction, nor is it a commitment from Raymond James Investment Management or any of its affiliates to participate in any of the transactions mentioned herein. Any examples used are generic, hypothetical, and for illustration purposes only. This material does not contain sufficient information to support an investment decision, and you should not rely on it in evaluating the merits of investing in any securities or products. In addition, users should make an independent assessment of the legal, regulatory, tax, credit, and accounting implications and make their own determinations together with their own professionals in those fields. Any forecasts, figures, opinions, or investment techniques and strategies set out are for information purposes only, based on certain assumptions and current market conditions, and are subject to change without prior notice. All information presented herein is considered to be accurate at the time of production, but no warranty of accuracy is given and no liability in respect of any error or omission is accepted. It should be noted that investment involves risks, the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements, and investors may not get back the full amount invested. Both past performance and yields are not reliable indicators of current and future results.
The views and opinions expressed are not necessarily those of the broker/dealer or any affiliates. Nothing discussed or suggested should be construed as permission to supersede or circumvent any broker/dealer policies, procedures, rules, and guidelines.
Sector investments are companies engaged in business related to a specific sector. They are subject to fierce competition and their products and services may be subject to rapid obsolescence. There are additional risks associated with investing in an individual sector, including limited diversification.
Investing in small cap stocks generally involves greater risks, and therefore, may not be appropriate for every investor. The prices of small company stocks may be subject to more volatility than those of large company stocks.
International investing presents specific risks, such as currency fluctuations, differences in financial accounting standards, and potential political and economic instability. These risks are further accentuated in emerging market countries where risks can also include possible economic dependency on revenues from particular commodities or on international aid or development assistance, currency transfer restrictions, and liquidity risks related to lower trading volumes.
Definitions
Basis points (bps) are measurements used in discussions of interest rates and other percentages in finance. One basis point is equal to 1/100th of 1%, or 0.01%.
Breadth describes the relationship between the median and the mean of a market index. When a few data outliers result in a mean that is substantially larger (or smaller) than the median of the full data set, then the performance of the entire index is being driven by a “narrow” selection of companies. An index supported by “broad” market movements is one where the median is closer to the mean. Market breadth is said to narrow when a smaller number of more extreme outliers drive the mean of an index further from its median.
Capital expenditures, or capex, are monies used by a company to buy, improve, or maintain physical assets such as real estate, facilities, technology, or equipment, and may include new projects or investments.
Comps, short for comparables, carries different meanings depending on the industry and context, but generally entails a comparison of financial metrics — often for two different time periods — or other factors to quantify performance or determine valuation.
Concentration is a term used to describe the extent to which investments in a portfolio, group of portfolios, industry, sector, index, or particular geography or clustered in groups that share specific factors or other characteristics. Concentration risk refers to the hazards posed to individual investments or market stability by excessive concentration of returns or other characteristics in certain areas.
Cyclical stocks have prices influenced by macroeconomic changes in the economy and are known for following the economy as it cycles through expansion, peak, recession, and recovery.
An earnings cycle includes changes in corporate earnings as they expand, peak, contract and hit a trough.
Earnings per share (EPS) is calculated as a company’s profit divided by the outstanding shares of its common stock. The resulting number serves as an indicator of a company’s profitability.
The Federal Open Market Committee (FOMC) consists of 12 members: the seven members of the Board of Governors of the Federal Reserve System; the president of the Federal Reserve Bank of New York; and four of the remaining 11 Reserve Bank presidents, who serve one-year terms on a rotating basis. The FOMC holds eight regularly scheduled meetings per year at which it reviews economic and financial conditions, determines the appropriate stance of monetary policy, and assesses the risks to its long-run goals of price stability and sustainable economic growth. The FOMC observes a blackout period, which begins at midnight of the second Saturday before each meeting. During the blackout periods, committee members do not make public comments about macroeconomic developments or monetary policy issues.
Fund flow is the net of all cash inflows and outflows into and out of a particular financial asset, sector, or index. It typically is measured on a quarterly or monthly basis. Investors and others look at the direction of fund flows for indications about the health of specific securities and sectors or the overall market.
Gross domestic product (GDP) is the total value of goods and services provided in an economy during a specified period, often one year.
Growth investing is a stock-buying strategy that focuses on companies expected to grow at an above-average rate compared to their industry or the market.
Hawkish, dovish, and centrist are terms used to describe the monetary policy preferences of central bankers and others. Hawks prioritize controlling inflation and may favor raising interest rates to reduce it or keep it in check. Doves tend to support maintaining lower interest rates, often in support of stimulating job growth and the economy more generally. Centrists tend to occupy the middle of the continuum between tight (hawkish) and loose (dovish) monetary policy.
A hedge is an investment or investment strategy that is designed to lessen the potential for losses in other investments. The price of an investment considered to be a hedge often moves in the opposite direction of the prices of the investments being hedged.
Illiquidity describes an asset or part of the market that cannot be easily and readily sold without the rest of a substantial loss in value.
An inflection in an investment trend marks a sudden change in the direction and rate of change of investor behavior regarding particular securities or areas of the markets. Inflections can lead to either positive or negative change.
Known unknowns refer to identified areas of potential risk with uncertainty surrounding the timing, scope of impact, or path of development for those risks.
The Magnificent Seven refers to the seven largest stocks by market capitalization in the S&P 500 Index, as of Dec. 29, 2023. Collectively they made up more than 25% of the market capitalization of the entire index. They are Alphabet, Amazon.com, Apple, Meta Platforms, Microsoft, NVIDIA and Tesla.
Market capitalization, or market cap, refers to the total dollar market value of a company’s outstanding shares of stock.
Market of stocks is a term market participants use when referring to the diversity of technical or other characteristics that may exist at any given time within the overall stock market. For example, the stock market as a whole may rise or fall on the fortunes of a small number of very large and thus very influential stocks. But within the broader market of stocks, there can be many companies with performance, risk, or opportunities that vary significantly from what market participants may find at the index level.
Mega-cap stocks are the largest publicly traded companies as measured by market capitalization. Generally, this refers to companies with market capitalizations over $200 billion.
Momentum investing is a strategy that aims to capitalize on the continuance of an existing market trend. It is a trading strategy in which investors buy securities that are already rising and look to sell them when they look to have peaked. It entails taking long positions on financial instruments with prices trending up and short positions on instruments with prices trending down.
NATO, or the North Atlantic Treaty Organization, is a political and military alliance of 32 countries from Europe and North America that is organized to guarantee their security and cooperation.
The neutral rate is the theoretical federal funds rate at which the stance of U.S. Federal Reserve monetary policy is neither accommodative nor restrictive. It is the short-term real interest rate consistent with the economy maintaining full employment with associated price stability. The federal funds rate, known as the fed funds rate, is the target interest rate set by the Federal Open Market Committee of the Federal Reserve. The target is the Fed’s suggested rate for commercial banks to borrow and lend their excess reserves to each other overnight.
Overbought is a term used to describe a security or group of securities believed to be trading at a level above its or their intrinsic or fair value.
A policy rate is an interest rate set by a central bank or other monetary authority to influence the evolution of an economy’s monetary variables such as consumer prices, exchange rates, or credit expansion.
Priced for destruction refers to the idea that an asset or company has a very low trading price that reflects a significant possibility that the value will decline even further or that the business or investment could fail.
Overweight describes a portfolio position in an industry sector or some other category that is greater than the corresponding weight level in a benchmark portfolio.
Positioning refers to assessments of whether professional investors are, on the whole, bullish or bearish on a particular security, industry, sector, market capitalization or other area of the market, as reflected by the extent to which they are invested in the area of the market in question.
A pullback is a temporary pause or drop in the price of a security that previously had been rising.
The summary of economic projections is produced following meetings of the Federal Open Market Committee and includes meeting participants’ projections of the most likely outcomes for real gross domestic product growth, the unemployment rate, and inflation for a forward-looking three-year window and over the longer run.
Tailwind is a term used to describe events or market forces that exert a positive influence on an investment’s performance.
A target return represents a goal of a market participant or institutional for its investment portfolio.
A price or value is said to have “troughed” after passing a low point on a curve tracking its value over time. In market analysis, investments have troughed after they set new lows, and it is expected that they will gain momentum and rally upward after that point.
A Trump trade is the idea that the polices and actions of President-elect Donald Trump’s second administration will benefit certain industries or sectors of the market.
Value investing is an investment strategy that involves picking stocks that appear to be trading for less than their intrinsic or book value.
Weak hands is a term used in finance to describe investors or traders who either lack conviction in their strategies or who don’t have the resources to carry them out. Typically, the term is used to describe investors who are “shaken out” by normal price movements in the market because, motivated by fear, they sell their positions at virtually any sign of bad news.
Indices
The S&P 500 Index measures change in stock market conditions based on the average performance of 500 widely held common stocks. It is a market-weighted index calculated on a total return basis with dividend reinvested. The S&P 500 represents approximately 80% of the investable U.S. equity market.
The S&P 500® Equal Weight Index is the equal-weight version of the S&P 500. It includes the same constituents as the capitalization-weighted S&P 500, but each company in the S&P 500 Equal Weight Index is allocated a fixed weight, or 0.2% of the index total at each quarterly rebalance.
The MSCI World Index captures large and mid-cap representation across 23 Developed Markets (DM) countries and does not include emerging markets. With 1,603 constituents, the index covers approximately 85% of the free float-adjusted market capitalization in each country. DM countries include Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Hong Kong, Ireland, Israel, Italy, Japan, Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland, the U.K., and the United States.
The Russell 2000® Index measures the performance of the 2,000 smallest companies in the Russell 3000® Index, which represents approximately 7% of the total market capitalization of the Russell 3000® Index.
London Stock Exchange Group plc and its group undertakings (collectively, the “LSE Group”). ©LSE Group 2024. FTSE Russell is a trading name of certain of the LSE Group companies. Russell® is a trademark of the relevant LSE Group companies and is used by any other LSE Group company under license. All rights in the FTSE Russell indexes or data vest in the relevant LSE Group company which owns the index or the data. Neither LSE Group nor its licensors accept any liability for any errors or omissions in the indexes or data and no party may rely on any indexes or data contained in this communication. No further distribution of data from the LSE Group is permitted without the relevant LSE Group company’s express written consent. The LSE Group does not promote, sponsor, or endorse the content of this communication.
M-658390 Exp. 4/16/2025
The U.S. economy remains on solid footing heading into 2025, with improving market fundamentals that could support additional gains in equities.
But a variety of risks and unanswered questions may also set the stage for the bull market to experience greater volatility going forward.
That makes portfolio diversification a higher-priority topic for investors to consider.
The vitality and resilience of the U.S. economy has been underappreciated for a long time, said Matt Orton, CFA, Chief Market Strategist at Raymond James Investment Management. For just as long, Orton has advocated for investors to consider using downside opportunistically in light of that strong fundamental backdrop. That strategy has worked well in 2024. Now the question is: Will this pattern of relatively shallow and short-lived pullbacks continue next year?
As we approach 2025, many investors agree that the economy is on solid footing and expect market fundamentals to keep improving, which could support additional gains. Orton tends to agree. Financial conditions are already loose and are likely to loosen further as the U.S. Federal Reserve (Fed) continues its interest rate-cutting cycle.1 Corporate earnings have improved meaningfully and are forecast to continue broadening and growing over the next 12 months. That, he said, could create a positive foundation for the bull market to continue next year.
“But I also expect that volatility will pick up, particularly in the first half of next year,” Orton said. “There are many ‘known unknowns’ moving forward — from tariff implementation to fiscal policy to geopolitics to inflation. Given a backdrop of increasingly stretched positioning and consensus optimism, I think it’s likely we see some sharper moves down as well as up. That is why I believe diversification will play an increasingly important role in portfolio performance in the coming year. I also believe there are plenty of opportunities across asset classes and market capitalizations for investors to consider as they evaluate whether they are positioned for a higher-volatility bull market.”
This bull market might just be getting started
S&P 500 bull markets, 1950 to present
| Bear market bottom |
Bull market peak |
Days | S&P 500 return |
|---|---|---|---|
6/13/1949 |
8/2/1956 |
2,607 |
267.1% |
10/22/1957 |
12/12/1961 |
1,512 |
86.4% |
6/26/1962 |
2/9/1966 |
1,324 |
79.8% |
10/7/1966 |
11/29/1968 |
784 |
48.0% |
5/26/1970 |
1/11/1973 |
961 |
73.5% |
10/3/1974 |
11/28/1980 |
2,248 |
125.6% |
8/12/1982 |
8/25/1987 |
1,839 |
228.8% |
12/4/1987 |
3/24/2000 |
4,494 |
582.1% |
10/9/2002 |
10/9/2007 |
1,826 |
101.5% |
3/9/2009 |
2/19/2020 |
3,999 |
400.5% |
3/23/2020 |
1/3/2022 |
651 |
114.4% |
10/12/2022 |
12/6/2024* |
786 |
70.3% |
Average: |
1,919 |
181.5% |
|
Median: |
1,862 |
174.4% |
|
Source: Bloomberg, as of 12/6/24. |
|||
There’s a lot to like about the market right now, Orton said. Earnings season confirmed the strong underlying fundamental foundation and the improvement now seen across a large breadth of sectors. Consensus expectations are for 15% earnings per share (EPS) growth for the S&P 500 Index in 2025.
“That actually looks reasonable to me,” Orton said, “particularly if the incoming Trump administration is able to follow through on some of its campaign promises.”
While Orton expects to see the biggest earnings improvement in energy (largely due to easy comparisons to previous periods), he said that industrials, financials, and healthcare, the leadership of the past few years, also could continue to post strong growth. It’s worth noting that stocks with the largest capitalizations have been performing well — in fact, the Magnificent Seven hit new highs last week — while the increased breadth continues to play out across sectors. All S&P 500 sectors are in the green year to date while industrials, utilities, consumer discretionary, and financials have joined information technology and communication services at the top. All of these sectors are now up more than 20% year to date. Small-caps took a breather last week, but Orton believes there’s nothing to indicate a prolonged pause in their upward momentum. The Russell 2000® Index is up more than 46% from its low last October yet still sits below its last all-time high from November 2021. The S&P 500 has hit 57 new highs this year. Orton thinks diversification across sectors and market capitalizations will play an even more important role in the coming year.
So if the fundamental backdrop looks so positive, why does Orton expect volatility to pick up?
One key reason is structural, he said. Investor positioning has been on the rise, especially following the results of the U.S. election. Asset managers have also been increasing their equity positioning as volatility has remained subdued, with the correlation between asset managers’ net futures positioning and S&P 500 realized volatility near multi-year highs. Volatility control funds also have been adding to their equity exposure given the low-volatility regime for most of this year.
“I suspect that when we do have the next bout of volatility, it may be disproportionate as these funds unwind their exposure and asset managers book profits,” Orton said.
The S&P 500 is set to post its fifth straight quarter of earnings per share (EPS)
growth, and it’s not just tech any more
FactSet S&P 500 third quarter EPS growth consensus expectations
Source: FactSet, as of 12/6/24.
Another reason is based on the “known unknowns” and the volatility Orton expects to see play out around future policy. There is a risk that a second Trump administration could fall short on some legislative expectations. Given the level of heightened optimism and extended valuations attached to related trades, there is a risk of some downside, he said.
“There is just very little room for disappointment,” Orton said, “so any flare-up of geopolitical conflict or sticky inflation or a backup in rates leaves the market vulnerable. I don’t expect any of this to lead to protracted downside based on the state of fundamentals today, but investors should be prepared for the bull market’s character to change.”
A key part of Orton’s bullish thesis for 2025 is based on expectations for a continued broadening of earnings growth across sectors as information technology keeps posting strong numbers. Specifically, the EPS growth of the Magnificent Seven is expected to slow from 43.5% this year to 27.7% next year while the EPS growth of the S&P 493 — the S&P 500 apart from the Magnificent Seven — is expected to rise from -0.3% to 10.3%. Also, the percentage of companies with negative trailing EPS growth is down to 27.3% and declining, while the percentage of companies with negative forward EPS growth is down to 9.9%. And despite the S&P 500 being up almost 28% year to date, Orton still sees areas of opportunity across the market worth considering. They include:
Small- and mid-caps.
The Russell 2000 still hasn’t crossed its all-time high from November 2021, while the S&P 500 has hit 57 all-time highs this year.
It looks like small-vs.-large relative performance has troughed. With rates coming down, economic resilience, and the place of smaller-cap stocks in the earnings cycle, Orton believes there are reasons to be optimistic.
Also, fund flows could benefit small and mid caps. Investors are still very underweight this part of the market.
Cyclicals.
Banks, insurance, and software companies look interesting given their strong outlooks for profitability.
The beneficiaries of capital expenditure, such as machinery and construction companies, and companies that trade and distribute materials are also worth watching.
Think about playing offense with defense, as heightened geopolitical risks are expected to drive growth for defense-oriented and aerospace companies.
U.S. capital market leadership can continue, but Orton sees selective diversification opportunities abroad.
Orton suggests investors consider staying overweight to U.S. securities.
But there are opportunities in countries on the periphery of the Eurozone and India.
The Federal Reserve is in its blackout period ahead of the Dec. 17–18 Federal Open Market Committee meeting, but it will still be top of mind given that we get the Consumer Price Index (CPI) and Producer Price Index (PPI) this week.
Economists expect that headline and core CPI, due on Wednesday, rose 0.3% last month. PPI is due Thursday and expectations are for the headline index reading to rise by 0.3% with core PPI up 0.2%. Following what Orton would call a Goldilocks November payroll report last Friday, the odds of a December Fed interest rate cut, as priced by the market, have risen to 86%. That makes this week’s inflation data critical to confirming that expectation or to adding some volatility back into the rates market.
The European Central Bank is widely expected to deliver a quarter-point reduction in the deposit rate while economists are expecting the bank’s outlook to reflect some deterioration.
1 Unless otherwise indicated, all data cited is sourced from Bloomberg as of Dec. 6, 2024.
Risk Information:
Investing involves risk, including risk of loss.
Diversification does not ensure a profit or guarantee against loss.
Disclosures:
Index or benchmark performance presented in this document does not reflect the deduction of advisory fees, transaction charges, or other expenses, which would reduce performance. Indexes are unmanaged. It is not possible to invest directly in an index. Any investor who attempts to mimic the performance of an index would incur fees and expenses that would reduce return.
This document is a general communication being provided for informational purposes only. It is educational in nature and not designed to be taken as advice or a recommendation for any specific investment product, strategy, plan feature, or other purpose in any jurisdiction, nor is it a commitment from Raymond James Investment Management or any of its affiliates to participate in any of the transactions mentioned herein. Any examples used are generic, hypothetical, and for illustration purposes only. This material does not contain sufficient information to support an investment decision, and you should not rely on it in evaluating the merits of investing in any securities or products. In addition, users should make an independent assessment of the legal, regulatory, tax, credit, and accounting implications and make their own determinations together with their own professionals in those fields. Any forecasts, figures, opinions, or investment techniques and strategies set out are for information purposes only, based on certain assumptions and current market conditions, and are subject to change without prior notice. All information presented herein is considered to be accurate at the time of production, but no warranty of accuracy is given and no liability in respect of any error or omission is accepted. It should be noted that investment involves risks, the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements, and investors may not get back the full amount invested. Both past performance and yields are not reliable indicators of current and future results.
The views and opinions expressed are not necessarily those of the broker/dealer or any affiliates. Nothing discussed or suggested should be construed as permission to supersede or circumvent any broker/dealer policies, procedures, rules, and guidelines.
Sector investments are companies engaged in business related to a specific sector. They are subject to fierce competition and their products and services may be subject to rapid obsolescence. There are additional risks associated with investing in an individual sector, including limited diversification.
Investing in small cap stocks generally involves greater risks, and therefore, may not be appropriate for every investor. The prices of small company stocks may be subject to more volatility than those of large company stocks.
International investing presents specific risks, such as currency fluctuations, differences in financial accounting standards, and potential political and economic instability. These risks are further accentuated in emerging market countries where risks can also include possible economic dependency on revenues from particular commodities or on international aid or development assistance, currency transfer restrictions, and liquidity risks related to lower trading volumes.
Definitions
Breadth describes the relationship between the median and the mean of a market index. When a few data outliers result in a mean that is substantially larger (or smaller) than the median of the full data set, then the performance of the entire index is being driven by a “narrow” selection of companies. An index supported by “broad” market movements is one where the median is closer to the mean.
Capital expenditures, or capex, are monies used by a company to buy, improve, or maintain physical assets such as real estate, facilities, technology, or equipment, and may include new projects or investments.
Comps, short for comparables, carries different meanings depending on the industry and context, but generally entails a comparison of financial metrics — often for two different time periods — or other factors to quantify performance or determine valuation.
A consensus estimate is a forecast of a public company’s projected earnings, the results of a particular industry, sector, geography, asset class, or other category, or the expected findings of a macroeconomic report based on the combined estimates of analysts and other market observers that track the stock or data in question.
The Consumer Price Index (CPI) measures the change in prices paid by consumers for goods and services. The U.S. Bureau of Labor Statistics bases the index on prices of food, clothing, shelter, fuels, transportation, doctors’ and dentists’ services, drugs, and other goods and services that people buy for day-to-day living. Prices are collected each month in 75 urban areas across the country from about 6,000 households and 22,000 retailers.
Core inflation measures generally exclude prices that are considered to be more volatile and thus less useful for tracking more durable trends inflation, including prices for food and, in many instances, fuel. Headline readings of inflation include all prices.
Correlation is a statistic that measures the degree to which two securities or variables move in relation to each other.
Cyclical stocks have prices influenced by macroeconomic changes in the economy and are known for following the economy as it cycles through expansion, peak, recession, and recovery.
Earnings per share (EPS) is calculated as a company’s profit divided by the outstanding shares of its common stock. The resulting number serves as an indicator of a company’s profitability.
The European Central Bank (ECB) deposit rate, which is set by the Governing Council of the ECB, is the rate on the deposit facility, which banks can use to make overnight deposits within the Eurosystem.
Fiscal policy refers to the tax collection and spending a government uses to influence its country’s economy.
The Federal Open Market Committee (FOMC) consists of 12 members: the seven members of the Board of Governors of the Federal Reserve System; the president of the Federal Reserve Bank of New York; and four of the remaining 11 Reserve Bank presidents, who serve one-year terms on a rotating basis. The FOMC holds eight regularly scheduled meetings per year at which it reviews economic and financial conditions, determines the appropriate stance of monetary policy, and assesses the risks to its long-run goals of price stability and sustainable economic growth. The FOMC observes a blackout period, which begins at midnight of the second Saturday before each meeting. During the blackout periods, committee members do not make public comments about macroeconomic developments or monetary policy issues.
Forward indicators use estimates of future activity to help forecast expected financial or economic outcomes over specific periods of time. A 12-month forward indicator consists of estimates looking one year into the future.
Fund flow is the net of all cash inflows and outflows into and out of a particular financial asset, sector, or index. It typically is measured on a quarterly or monthly basis. Investors and others look at the direction of fund flows for indications about the health of specific securities and sectors or the overall market.
Goldilocks is a term used to describe economic data suggesting that an economy is neither “too hot” nor “too cold,” which would encourage a central bank to leave interest rates unchanged at a level considered to be “just right.”
Known unknowns refer to identified areas of potential risk with uncertainty surrounding the timing, scope of impact, or path of development for those risks.
Loose financial conditions are marked by an increase in available funds or a decline in interest rates that reduces the costs of lending and accordingly drives up demand.
The Magnificent Seven refers to the seven largest stocks by market capitalization in the S&P 500 Index, as of Dec. 29, 2023. Collectively they made up more than 25% of the market capitalization of the entire index. They are Alphabet, Amazon.com, Apple, Meta Platforms, Microsoft, NVIDIA and Tesla.
Market capitalization, or market cap, refers to the total dollar market value of a company’s outstanding shares of stock.
Net futures positioning is a form of investor positioning that involves managing a balance between long and short positions in the futures market. A long position refers to the purchase of a security with the expectation that it will rise in value, reflecting a bullish attitude. A short position refers to a trading technique in which an investor sells a security with plans to buy it later. Futures markets are auction markets where investors buy and sell commodity and futures contracts. A futures contract is a legal agreement to buy or sell an asset at a predetermined price at a specified time in the future, which is known as the expiration date. Futures contracts are financial derivatives that allow investors to speculate on the direction of a particular asset and are often used to hedge the price movement of the underlying asset to help prevent losses from undesired price changes.
Overweight describes a portfolio position in an industry sector or some other category that is greater than the corresponding weight level in a benchmark portfolio.
The payroll report, officially known as the Employment Situation Summary, is a monthly U.S. Bureau of Labor Statistics (BLS) report tracking nonfarm payroll employment and the national unemployment rate, with data on changes in average hourly earnings, and job trends in public and private sectors of employment. The report is based on surveys of households and employers.
Positioning refers to assessments of whether professional investors are, on the whole, bullish or bearish on a particular security, industry, sector, market capitalization or other area of the market, as reflected by the extent to which they are invested in the area of the market in question.
The Producer Price Index (PPI), published monthly by the U.S. Bureau of Labor Statistics, measures the average change over time in the selling prices received by domestic producers for their output.
A pullback is a temporary pause or drop in the price of a security that previously had been rising.
Realized volatility, also known as historical volatility, measures levels of volatility that took place in the past.
Sticky is a term used to describe measured data that is slow to change, in contrast to faster-changing or more variable data.
Trailing indicators are data or measurements that reflect events, trends, results, or developments that took place in the past. Trailing indicators typically refer to a specific time period for which the data in question is aggregated, summed, or averaged. Trailing indicators help reflect trends that occur over specified periods of time.
Underweight describes a portfolio position in an industry sector or some other category that is less than the corresponding weight level in a benchmark portfolio.
Unwinding describes the process of closing out what is often a large or complicated trading position.
A volatility control fund uses investment strategies that seek to mitigate the risk posed by market fluctuations by adjusting the portfolio’s exposure to certain securities as their levels of volatility change.
Indices
The S&P 500 Index measures change in stock market conditions based on the average performance of 500 widely held common stocks. It is a market-weighted index calculated on a total return basis with dividend reinvested. The S&P 500 represents approximately 80% of the investable U.S. equity market.
The Russell 2000® Index measures the performance of the 2,000 smallest companies in the Russell 3000® Index, which represents approximately 7% of the total market capitalization of the Russell 3000® Index.
London Stock Exchange Group plc and its group undertakings (collectively, the “LSE Group”). ©LSE Group 2024. FTSE Russell is a trading name of certain of the LSE Group companies. Russell® is a trademark of the relevant LSE Group companies and is used by any other LSE Group company under license. All rights in the FTSE Russell indexes or data vest in the relevant LSE Group company which owns the index or the data. Neither LSE Group nor its licensors accept any liability for any errors or omissions in the indexes or data and no party may rely on any indexes or data contained in this communication. No further distribution of data from the LSE Group is permitted without the relevant LSE Group company’s express written consent. The LSE Group does not promote, sponsor, or endorse the content of this communication.
M-654349 Exp. 4/9/2025
Third-quarter earnings results were generally positive. Earnings breadth is expanding across sectors. Margins remain strong enough to continue to support a healthy labor market.
Small- and mid-cap stocks were big winners in November with the Russell 2000® Index up more than 10%.
Other areas to watch include cyclical stocks and select parts of the international equities market.
November was the best month of the year so far in an already remarkably strong 2024 for the S&P 500 Index.1 With the index now up 26.5% this year, Matt Orton, CFA, Chief Market Strategist at Raymond James Investment Management, said he can understand how some investors might question whether the market can continue to march higher into the end of the year.
That said, he believes the U.S. economy remains fundamentally strong, and notes that December historically has been the S&P 500’s best month of the year, with gains 74% of the time going back to 1928. Consequently, he remains bullish.
“To be sure, momentum and sentiment are a bit stretched, particularly across cyclical stocks,” he said, “but I believe all that means is we might be in for a brief consolidation either through price or time before resuming the upward march.”
The third-quarter earnings season is now nearly complete, and the results were generally positive. Technology earnings remained robust while the increase in earnings breadth across sectors and industries continued to play out. Margins are strong, giving Orton comfort that the labor market is unlikely to deteriorate materially in the near future, and economic data continues to surprise to the upside. Critically, he said, the S&P 500’s strength has been broad both during earnings season and in November, with the breadth in earnings growth translating into increased breadth in price. The market of stocks (i.e., the S&P 500® Equal Weight Index, up 6.24%) outperformed the broader stock market (the S&P 500, up 5.87%) in November, while small- and mid-caps were big winners with the Russell 2000® Index up more than 10%.
“I believe this sort of healthy rotation is critical to supporting bull markets, and it doesn’t look like it will stop in the near future,” Orton said. “As we head into next year, I expect to see a continued rotation into more cyclical parts of the market as well as down the market cap spectrum, supported by strong U.S. economic growth, deregulatory tailwinds, and continued earnings growth.”
Additionally, Orton noted that financial conditions are already loose and are set to loosen even more going forward.
“That is not an environment where I believe that investors should think about reducing risk,” he said. “Rather, I favor considering whether to use downside opportunistically and to think about leaning into the notion that a balanced portfolio between growth, cyclicality, and income could actually work in the brave new world of 2025.”
That said, Orton noted that this is a high volatility bull market. The recent escalation between Ukraine and Russia highlights this and is a reminder of the lurking geopolitical risks on the board, including Gaza, Iran, and Taiwan.
“There will be increasing headline risk going forward, leading to more volatility,” he said. “But I believe these events are unlikely to impact corporate fundamentals and instead could provide investors with opportunities to consider using downside opportunistically.”
Two pushbacks that Orton receives regarding his “fairly bullish outlook” are focused on valuations and inflation.
“I don’t think it’s possible to go a day — or maybe even just a few hours — without hearing that U.S. equities are expensive,” he said. “The U.S. market looks pretty rich relative to both other geographic segments and to its own history, but I have long argued that much more nuance is required.”
Economic and earnings growth for the U.S. has “trounced” most developed and emerging markets, he said, and he believes that looks set to continue next year. Still, he said there are exceptions, which is why selectivity overseas is so important.
The average stock also looks quite different from the cap-weighted market from a valuation perspective, Orton said. Don’t forget that valuations in the S&P 500 have tracked the sharp rise in the “growthiness” of the U.S. economy as a whole over the past 30 years. In 2024, a good balance between earnings growth and multiple expansion has driven the market higher, and Orton said he expects to see earnings drive even more of the market’s gains in 2025.
Resilient and rising corporate profit margins are not indicative of a looming recession
S&P 500 trailing 12-month net margins vs. U.S. unemployment rate
Source: Bloomberg, as of 9/30/24.
Tied into valuation considerations are interest rates, and tied into rates is inflation. The rapid disinflation in core goods prices that characterized the last year has started to ebb while core services inflation has continued to slow more gradually. That has left inflation more likely to settle a little above the U.S. Federal Reserve’s 2% target rather than below it. The known unknowns of policy under President Donald Trump’s second administration also leave some questions with respect to the inflationary path, Orton said, but the pullback in rates over the last week signaled to him that “perhaps some of that adjustment has already been done — or that we’ll cross that bridge when we come to it.”
“All that said, even with sticky inflation and a terminal rate higher than current forecasts, there is still scope for additional Fed interest rate cuts, and I believe that we’ll see rates lower at the end of 2025,” he said.
Equities have a positive backdrop heading into next year, but Orton said that doesn’t mean the path higher will be smooth. The market is full of uncertainty on the policy front, but he believes that if strength across the broader market of stocks continues, that rotation could keep the market afloat. The S&P 500 is poised to post its second consecutive year of gains since the start of the current bull market, and it looks like both years could have performance of more than 20%. Orton said his base case isn’t to see performance of more than 20% again next year, but he doesn’t think that can be written off, either, even with some bumps along the way. While it would be rare to have three consecutive years of 20%-plus performance for the S&P 500, it did happen from 1995 to 1998, and in 1999 the S&P 500’s return was 19.5%. Consequently, Orton favors owning the broad market, and within that, thinking about leaning into certain sectors, factors, or size segments. Areas he’s watching now include:
Small- and mid-caps. The Russell 2000 just closed one of its best Novembers on record, up over 10%, while the Russell Midcap® Index wasn’t too far behind. Orton said it’s clear that enthusiasm around economic growth and the outlook for an inflection in earnings growth down the market cap spectrum have propelled smaller companies, and he believes this trend could continue. Flows are returning to the space, and Orton said valuations remain attractive relative to large caps: The S&P 500 has hit 53 new highs this year while the Russell 2000 is trading right around its last all-time-high set in November 2021. “There’s room to run,” he said, “and I encourage investors who are underweight to these asset classes to consider adding to small- and mid-cap positions.”
Cyclicals. The growth of the U.S. economy has been robust, and Orton said it looks like that will continue in 2025. It’s no surprise that earnings picked up this year in more economically sensitive sectors like industrials and financials. Meanwhile, materials and energy have had their share of challenges – largely tough comparisons to previous periods, idiosyncratic issues across certain industries, and exposure to a global economy that hasn’t been as strong as the U.S. economy. After struggling for some time, leading indicators suggest that manufacturing could emerge from three years of stagnation in 2025. The consumer, industrial, and construction sectors of the economy all have started to post positive surprises. Orton has favored thinking about leaning into cyclicality in the second half of this year, and he thinks the trade in financials, especially regional banks and capital markets companies, has scope to keep moving higher on the prospect of a less restrictive Federal Trade Commission (FTC) regime and an increased likelihood of consolidation within the industry. He also continues to favor industrials. “I have advocated evaluating the potential benefits of ‘playing offense with defense,’ and I still like aerospace and defense companies, especially those with software elements or those that provide security solutions for domestic law enforcement.” Orton also likes companies exposed to construction spending, those that could benefit from increased capital expenditures to support the growth of artificial intelligence. These include electric equipment companies and manufacturing-related companies that could get a boost from reshoring and infrastructure projects.
International equities. There is a reason that U.S. equities have outperformed so consistently over the past 15 years relative to international markets, Orton said. Strong earnings growth, supported by the moats of the mega-cap tech complex, has been tough to beat. And while there are a lot of challenges right now from a fundamental and technical perspective for many overseas markets, especially in Europe, Orton believes there is a lot of bad news already priced in. “I don’t think it will take too much to go right in order to see certain parts of international markets outperform,” he said. “The key is selectivity.” Areas he likes include:
Global banks.
Japan, which is embarking on a massive green stimulus package that could prove supportive to parts of the market. If U.S. relations with China become more strained, Orton also expects that Japan could be relatively insulated from tariff-related threats as it’s a key ally.
India, where a recent pullback in the NIFTY 50 Index provided investors with an opportunity to consider adding capital or increasing their exposure to what Orton sees as one of the most dynamic growth stories in the past few decades.
Small caps expected to leave their earnings recession behind
Quarterly year-over-year EPS growth and estimates
Source: FactSet, as of 11/29/24.
Friday brings the November U.S. payroll report from the U.S. Bureau of Labor Statistics. Consensus expectations are for an addition of 200,000 jobs, following a plunge of 12,000 new jobs in October, which reflected the impact of hurricanes and a prolonged strike at a major airline manufacturer.
Earlier in the week, the Job Openings and Labor Turnover Survey (JOLTS) and Institute for Supply Management reports will help gauge the strength of the U.S. economy ahead of the end of the year. On Wednesday, Federal Reserve Chair Jerome Powell takes part in a moderated discussion at the New York Times DealBook Summit. European Central Bank President Christine Lagarde also will speak at other events.
1 Unless otherwise indicated, all data cited is sourced from Bloomberg as of Nov. 29, 2024.
Risk Information:
Investing involves risk, including risk of loss.
Diversification does not ensure a profit or guarantee against loss.
Disclosures:
Index or benchmark performance presented in this document does not reflect the deduction of advisory fees, transaction charges, or other expenses, which would reduce performance. Indexes are unmanaged. It is not possible to invest directly in an index. Any investor who attempts to mimic the performance of an index would incur fees and expenses that would reduce return.
This document is a general communication being provided for informational purposes only. It is educational in nature and not designed to be taken as advice or a recommendation for any specific investment product, strategy, plan feature, or other purpose in any jurisdiction, nor is it a commitment from Raymond James Investment Management or any of its affiliates to participate in any of the transactions mentioned herein. Any examples used are generic, hypothetical, and for illustration purposes only. This material does not contain sufficient information to support an investment decision, and you should not rely on it in evaluating the merits of investing in any securities or products. In addition, users should make an independent assessment of the legal, regulatory, tax, credit, and accounting implications and make their own determinations together with their own professionals in those fields. Any forecasts, figures, opinions, or investment techniques and strategies set out are for information purposes only, based on certain assumptions and current market conditions, and are subject to change without prior notice. All information presented herein is considered to be accurate at the time of production, but no warranty of accuracy is given and no liability in respect of any error or omission is accepted. It should be noted that investment involves risks, the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements, and investors may not get back the full amount invested. Both past performance and yields are not reliable indicators of current and future results.
The views and opinions expressed are not necessarily those of the broker/dealer or any affiliates. Nothing discussed or suggested should be construed as permission to supersede or circumvent any broker/dealer policies, procedures, rules, and guidelines.
Sector investments are companies engaged in business related to a specific sector. They are subject to fierce competition and their products and services may be subject to rapid obsolescence. There are additional risks associated with investing in an individual sector, including limited diversification.
Investing in small cap stocks generally involves greater risks, and therefore, may not be appropriate for every investor. The prices of small company stocks may be subject to more volatility than those of large company stocks.
International investing presents specific risks, such as currency fluctuations, differences in financial accounting standards, and potential political and economic instability. These risks are further accentuated in emerging market countries where risks can also include possible economic dependency on revenues from particular commodities or on international aid or development assistance, currency transfer restrictions, and liquidity risks related to lower trading volumes.
Definitions
Breadth describes the relationship between the median and the mean of a market index. When a few data outliers result in a mean that is substantially larger (or smaller) than the median of the full data set, then the performance of the entire index is being driven by a “narrow” selection of companies. An index supported by “broad” market movements is one where the median is closer to the mean.
Capital markets companies provide services to financial markets that serve buyers and sellers of financial assets.
Comps, short for comparables, carries different meanings depending on the industry and context, but generally entails a comparison of financial metrics — often for two different time periods — or other factors to quantify performance or determine valuation.
A consensus estimate is a forecast of a public company’s projected earnings, the results of a particular industry, sector, geography, asset class, or other category, or the expected findings of a macroeconomic report based on the combined estimates of analysts and other market observers that track the stock or data in question.
Consolidation is a term used in technical analysis to describe when stocks reverse previous gains (or losses) to stay within well-defined trading levels.
Core inflation measures generally exclude prices that are considered to be more volatile and thus less useful for tracking more durable trends inflation, including prices for food and, in many instances, fuel.
Cyclical stocks have prices influenced by macroeconomic changes in the economy and are known for following the economy as it cycles through expansion, peak, recession, and recovery.
Disinflation refers to the temporary slowing of the pace of price inflation and describes what happens when the inflation rate is marginally lower over the short term. Disinflation refers only to the rate of change in the rate of inflation. In this, it is distinct from inflation and deflation, which describe the direction of prices.
Earnings per share (EPS) is calculated as a company’s profit divided by the outstanding shares of its common stock. The resulting number serves as an indicator of a company’s profitability.
An earnings recession is considered to be two or more consecutive quarters of declining corporate year-over-year profits.
Fund flow is the net of all cash inflows and outflows into and out of a particular financial asset, sector, or index. It typically is measured on a quarterly or monthly basis. Investors and others look at the direction of fund flows for indications about the health of specific securities and sectors or the overall market.
Growth investing is a stock-buying strategy that focuses on companies expected to grow at an above-average rate compared to their industry or the market.
Headline risk describes the possibility that a news story will influence the price of a security or group of securities.
The inflation target rate of the U.S. Federal Reserve is the rate of price increases that the Fed prefers to see to ensure the economy will remain stable. Generally, the Fed’s target rate is 2%, as measured by the Personal Consumption Expenditures (PCE) Price Index.
The Institute for Supply Management produces several surveys assessing business conditions and outlooks across a variety of industries. They include the ISM Purchasing Managers’ Index (PMI), which measures the prevailing direction of economic trends in the manufacturing sector, and the Services ISM® Report on Business®, which is based on data compiled from purchasing and supply executives and reflects the change, if any, in the current month compared to the previous month in supplier deliveries along with seasonally adjusted business activity, new orders, and employment.
The Job Openings and Labor Turnover Survey (JOLTS) program produces monthly data on job openings, hires, and separations compiled by the U.S. Bureau of Labor Statistics. The survey’s job openings rates consider month-to-month changes in the number of job openings reported on both a state and national level.
Known unknowns refer to identified areas of potential risk with uncertainty surrounding the timing, scope of impact, or path of development for those risks.
Loose financial conditions are marked by an increase in available funds or a decline in interest rates that reduces the costs of lending and accordingly drives up demand.
Market capitalization, or market cap, refers to the total dollar market value of a company’s outstanding shares of stock.
Market of stocks is a term market participants use when referring to the diversity of technical or other characteristics that may exist at any given time within the overall stock market. For example, the stock market as a whole may rise or fall on the fortunes of a small number of very large and thus very influential stocks. But within the broader market of stocks, there can be many companies with performance, risk, or opportunities that vary significantly from what market participants may find at the index level.
A moat, in finance, refers to a business’s ability to maintain competitive advantages in relation to its competitors and thereby to safeguard its market share and long-term profits. Investor Warren Buffett popularized the term.
A multiple, sometimes referred to as the price multiple or earnings multiple, is a measure of a company’s value based on the ratio of its current share price to its earnings per share. This ratio is known as the price-to-earnings ratio, or P/E.
Multiple expansion occurs when a stock’s multiple rises, in some cases faster than the stock’s fundamental value. Multiple expansion creates arbitrage opportunities for investors who have bought the stock at the lower multiple value.
A net profit margin, often shortened to net margin, measures how much net income or profit a company generates as a percentage of revenue. It can be expressed as a percentage or a decimal.
The payroll report, officially known as the Employment Situation Summary, is a monthly U.S. Bureau of Labor Statistics (BLS) report tracking nonfarm payroll employment and the national unemployment rate, with data on changes in average hourly earnings, and job trends in public and private sectors of employment.
Reshoring describes an effort to bring manufacturing and other services back to the United States from overseas operations.
Rotation describes the movement of investments in securities from one industry, sector, factor, or asset class to another as market participants react to or try to anticipate the next stage of the economic cycle.
Sticky is a term used to describe measured data that is slow to change, in contrast to faster-changing or more variable data.
Tailwind is a term used to describe events or market forces that exert a positive influence on an investment’s performance.
A terminal rate is the level at which a central bank stops adjusting interest rates — either upward or downward — in its attempts to manage inflation and avoid recession.
Trailing indicators are data or measurements that reflect events, trends, results, or developments that took place in the past. Trailing indicators typically refer to a specific time period for which the data in question is aggregated, summed, or averaged. Trailing indicators help reflect trends that occur over specified periods of time.
Underweight describes a portfolio position in an industry sector or some other category that is less than the corresponding weight level in a benchmark portfolio.
Indices
The S&P 500 Index measures change in stock market conditions based on the average performance of 500 widely held common stocks. It is a market-weighted index calculated on a total return basis with dividend reinvested. The S&P 500 represents approximately 80% of the investable U.S. equity market.
The S&P 500® Equal Weight Index is the equal-weight version of the S&P 500. It includes the same constituents as the capitalization-weighted S&P 500, but each company in the S&P 500 Equal Weight Index is allocated a fixed weight, or 0.2% of the index total at each quarterly rebalance.
The NIFTY 50 Index is a stock index on the National Stock Exchange of India that tracks the largest assets in the Indian equity market. It is diversified across 13 sectors of the Indian economy: financial services, information technology, consumer goods, oil and gas, automobiles, telecommunications, construction, pharmaceuticals, metals, power, cement and cement products, fertilizers and pesticides, and media and entertainment.
The Russell 2000® Index measures the performance of the 2,000 smallest companies in the Russell 3000® Index, which represents approximately 7% of the total market capitalization of the Russell 3000® Index.
The Russell Midcap® Index measures the performance of the mid-cap segment of the U.S. equity universe. It includes approximately 800 of the smallest securities of the Russell 1000® Index based on a combination of their market capitalization and current index membership and represents approximately 27% of the total market capitalization of the Russell 1000® Index.
London Stock Exchange Group plc and its group undertakings (collectively, the “LSE Group”). ©LSE Group 2024. FTSE Russell is a trading name of certain of the LSE Group companies. Russell® is a trademark of the relevant LSE Group companies and is used by any other LSE Group company under license. All rights in the FTSE Russell indexes or data vest in the relevant LSE Group company which owns the index or the data. Neither LSE Group nor its licensors accept any liability for any errors or omissions in the indexes or data and no party may rely on any indexes or data contained in this communication. No further distribution of data from the LSE Group is permitted without the relevant LSE Group company’s express written consent. The LSE Group does not promote, sponsor, or endorse the content of this communication.
M-651062 Exp. 4/2/2025
