Investment research update | Denise Chisholm market commentary | Fidelity – Fidelity Investments

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Despite taking a breather in April, the stock market has overall continued to rally this year—extending the bull market that began more than a year ago.
My research focuses on analyzing market history to uncover patterns and probabilities that can help inform the current outlook. Recently, my research has suggested that broad-based stock gains could continue, fueled by strong corporate earnings, momentum, and reasonable valuations. My research has also turned up bullish signals on small-cap and mid-cap stocks in particular.
Here’s more on 3 key reasons why I’m still bullish.
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At the start of 2024, I wrote that corporate earnings looked likely to accelerate this year after struggling in 2023. At that time, I noted that increased pricing power and rising productivity could boost profits. New evidence adds support to this thesis.
For one thing, new manufacturing orders have risen sharply—as shown by the ISM Manufacturing New Orders Index, which uses survey data to measure new orders placed by customers with manufacturing firms. The increase in this index over the 6 months through March was in the top 10% of its range since 1968. Strong growth in new orders may reflect economic expansion, which in turn could boost corporate earnings. In fact, in historical periods with top-10% gains in the ISM index, corporate earnings grew over the next 12 months 92% of the time.
Get Fidelity’s complete Q2 2024 Investment Research Update, from the desk of Denise Chisholm, director of quantitative market strategy. Download the full report (PDF)
Another potential boost for corporate earnings could come from loosening lending standards. The Fed’s Senior Loan Officer Opinion Survey has shown that on average lending standards have still been tight—but that the rate of change in tightening has shifted dramatically, which could point to potential loosening ahead. The most recent report included a steep 6-month decline in the number of senior bank officers who reported tightening their standards for commercial and industrial loans to large firms.1 After every comparable 6-month decline since 1990, earnings then grew over the next 12 months.
Finally, forecasts for tech-sector profits offer another reason for optimism about broad-market earnings. As of March, analysts’ 12-month earnings estimates for technology companies were more than 25% higher than they were a year earlier. Tech earnings forecasts historically have been a bellwether: Big jumps in earnings estimates for the sector have preceded strong earnings for the market overall. In the past, when growth in technology forward earnings per share reached the top quartile of its historical range, as it did recently, the broad stock market’s earnings increased over the next 12 months every time.
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The stock market has risen rapidly since October 2022 and notched a number of new all-time highs this year, causing some investors to worry that stocks have become too expensive. To gauge equity valuations, I like to compare the market’s earnings yield—earnings divided by price—to bond yields. When stocks’ earnings yield is higher than the yield on the 10-year Treasury, it suggests to me that stocks are cheap relative to bonds.
Based on this analysis, stocks do not look expensive compared to bonds. Stocks’ earnings yield relative to the yield on the 10-year Treasury recently stood near the middle of their historical range going back to 1962. From similar levels in the past, the S&P 500 advanced about 74% of the time over the following 12 months.
What’s more, momentum may be on investors’ side. Earlier this year, the stock market’s gains over a 15-week stretch reached the top 1% of 15-week periods since 1951. Strong momentum like this has been a positive signal, historically. In the past, when the S&P 500 posted a 15-week gain in the top 1% of its historical range, it advanced over the next 12 months 98% of the time.
While I think the stock market broadly could still have more room to run, I feel particularly bullish about small- and mid-cap stocks, which have not rallied as much as large caps in the past year and a half.
Small caps’ valuations relative to large caps recently reached the cheapest 5% of their historical range, based on the price-to-book ratios of the Russell 2000 and the S&P 500 (price-to-book is stock price divided by book value, which is measured as assets minus liabilities divided by the number of shares outstanding). Historically, that has been a great sign for small-cap performance: Every other time since 1990 that small-cap valuations were in the cheapest 5% relative to large caps, small-cap stocks outperformed over the next 12 months.
Investors who are interested in this opportunity but worried about the potentially higher risks of small caps could consider mid caps instead. Mid caps’ relative valuations look similar to small caps’, with the earnings yield on the mid-cap-focused S&P 400 recently reaching the cheapest 10% of its historical range, relative to the S&P 500. After similar relative valuation levels in the past, mid-cap stocks outperformed large caps by an average of 15 percentage points over the next 12 months.
Based on my analysis, the environment today looks likely to support further stock-market gains. Investors looking to make tactical adjustments to their long-term portfolios might consider nudging up their exposure to small- and/or mid-cap companies.
Denise Chisholm is director of quantitative market strategy in the Quantitative Research and Investments (QRI) division at Fidelity Investments. Fidelity Investments is a leading provider of investment management, retirement planning, portfolio guidance, brokerage, benefits outsourcing, and other financial products and services to institutions, financial intermediaries, and individuals.
In this role, Ms. Chisholm is focused on historical analysis, its application in diversified portfolio strategies, and ways to combine investment building blocks, such as factors, sectors, and themes. In addition to her research responsibilities, Ms. Chisholm is a popular contributor at various Fidelity client forums, is a LinkedIn 2020 Top Voice, and frequently appears in the media.
Prior to assuming her current position, Ms. Chisholm was a sector strategist focused on sector strategy research, its application in diversified portfolio strategies, and ways to combine sector-based investment vehicles. Ms. Chisholm also held multiple roles within Fidelity, including research analyst on the mega cap research team, research analyst on the international team, and sector specialist.
Previously, Ms. Chisholm performed dual roles as an equity research analyst and director of Independent Research at Ameriprise Financial. In this capacity, she focused on the integration of differentiated research platforms and methodologies. Before joining Fidelity in 1999, Ms. Chisholm served as a cost-of-living consultant for ARINC and as a Department of Defense statistical consultant at MCR Federal. She has been in the financial industry since 1999.
Ms. Chisholm earned her bachelor of arts degree in economics from Boston University.
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Past performance is no guarantee of future results.
Investing involves risk, including risk of loss.
Views expressed are as of the date indicated, based on the information available at that time, and may change based on market or other conditions. Unless otherwise noted, the opinions provided are those of the speaker or author and not necessarily those of Fidelity Investments or its affiliates. Fidelity does not assume any duty to update any of the information.
Stock markets are volatile and can fluctuate significantly in response to company, industry, political, regulatory, market, or economic developments. Investing in stock involves risks, including the loss of principal.
The securities of smaller, less well known companies can be more volatile than those of larger companies.
As with all your investments through Fidelity, you must make your own determination whether an investment in any particular security or securities is consistent with your investment objectives, risk tolerance, financial situation, and evaluation of the security. Fidelity is not recommending or endorsing this investment by making it available to its customers.
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