The S&P 500, defying mounting economic risks, is on a tear, breaking above critical support levels and setting its sights on a 6,000 target by year’s end. This surge is a testament to the powerful interplay between robust earnings growth and the Federal Reserve’s potential shift towards lower interest rates.
The market’s momentum is fueled by the strong outlook for corporate earnings. While forecasts for the third and fourth quarters of 2024, and the first half of 2025, have moderated somewhat since the summer, they remain robust. Notably, the expected growth in the third quarter, despite a slight sequential decrease from the double-digit figures, is poised to launch a period of accelerated growth in the fourth quarter and sustained double-digit growth in the first half of 2025.
Adding further fuel to the market’s fire is the Fed’s leaning towards lower interest rates. This, coupled with healthy economic data, suggests that the current forecasts for next year may be too conservative. Moreover, the outlook for dividends and share repurchases is also a powerful driver for the S&P 500’s uptrend. While not all S&P 500 companies participate in these activities, a majority do, and many engage in both. The expectation is for sustained growth in both dividends and share repurchases in 2025, building upon the momentum set in 2024. Goldman Sachs estimates predict that 2025 share repurchases will surpass $1 trillion, setting a record driven by earnings growth, lower interest rates, and resilient economic conditions.
Despite recent spotty weaknesses, the overall economic data remains healthy in 2024, aligning with Goldman’s forecast. Strong job growth and sustained wage inflation near 4.0% are contributing to a positive economic backdrop. While a slowdown in GDP growth could pose a headwind for earnings growth, the projected 2% to 2.5% growth rate remains solid and is likely an underestimate.
Large-cap tech stocks are expected to continue their upward trajectory in 2024 and early 2025, though volatility is expected as the VIX remains elevated and technical weakness persists. Investors are advised to avoid chasing higher stock prices and instead wait for price pullbacks before making purchases, focusing on quality stocks and being prepared to exit quickly.
While the rally is expected to broaden to encompass all sectors in 2025, including healthcare, materials, communications, and technology, large-cap companies and AI will remain in the spotlight. Communications and technology sectors are poised to be the second and fourth fastest-growing, fueling continued investment in leading names like NVIDIA, Microsoft, Amazon, Google, and other AI-powered giants.
However, this concentration of investment in tech stocks presents a significant risk. The S&P 500 is a market-cap-weighted index, meaning that as more money flows into tech, the index becomes increasingly reliant on the performance of these stocks. If the AI bubble bursts, the impact on the market could be substantial, particularly given that the top five holdings in the S&P, including Apple, NVIDIA, Microsoft, and others mentioned above, already account for a staggering 30% of the entire index.
Eventually, the Fed’s policy will be reflected in the data and results, potentially leading to improved economic conditions and a shift towards small-cap strength. This could potentially mark the end of the bull market for large-cap stocks. Investors should closely monitor these developments to navigate the market effectively.