Forward Price/Earnings Findings

26% of large companies, 37% of mid-sized companies, and 53% of small companies are trading at 24x next year’s earnings (or higher). Meanwhile, roughly 15% of all companies are expected to trade at 12x next year’s earnings (or lower). This means that 85% of the companies are not what we would consider to be cheap. The Forward P/E measure does look better than the trailing 12-month counterpart of P/E, but investors must understand that analysts are often too optimistic about a stock’s prospects, and these numbers are frequently revised downward.

Earnings Growth

It may make sense to sometimes overpay for a company, if one has some strong research to back up that the company will grow its profits substantially and justify a higher price multiple. So how many companies are expected to grow less than 10% vs. those that are expected to grow by more than 30% for the next year?

Earnings Growth Findings

Somewhat surprisingly, many of those companies that have either a high P/E or high Forward P/E, are actually not estimated to grow by a whole lot in the next year (as it relates to profits). In fact, 32% of large companies are expected to grow by 10%, or less. This compares with 38% of mid-sized companies and 37% of small companies that are expected to grow the bottom line by 10%, or less. There are, however, a fair amount of companies that are expected to grow by roughly 30%, of more. 28% of large companies, 29% of mid-sized companies, and 28% of small companies are expected to grow by 30% or more. Roughly 8% of all companies are expected to grow by less than 10% and also have a forward P/E multiple of 24, or more. This is not an attractive combination for investors – low growth and rich price.

Companies in a Bear Market vs. Companies that are Near a High

With the recent volatility, and with the S&P 500 off roughly 7% from its January high, one wonders how many companies are still exhibiting strong momentum and moving higher vs. how many companies are in a full-fledged bear market.

Bear Market vs. Near High Findings

For the largest companies, roughly 17% are in a bear market (defined as a 20% or more drawdown in the last year) while 9% are within 2% of a 52-week high. For mid-sized companies, 25% are in a bear market and 10% are near a market high. For the smallest companies, a whopping 45% are in a bear market while just 5% are near market highs.

While the S&P 500 is 7% off its record high, and 13% above its 52-week low, there are a greater percentage of smaller companies that are in a bear market (at this point), and not very many that have achieved new highs are able to stay close to those highs.

Summary

It can be exciting to find companies that pay a good dividend yield, are attractively priced, are substantially growing their profits, and are also exhibiting strong price momentum. The challenge is that these companies are not actually easy to find, even in the current higher volatility environment.

Of the companies in the Russell 3000, just 12 of them meet the criteria for high dividend yield, low P/E, and high earnings growth. Of the 12, only two are showing good momentum. The strongest value companies right now are more likely to be in a bear market, and the strongest momentum companies are likely to be very expensive with minimal yields. Balancing momentum with value, which have very low correlations with each other, is key. Having too much momentum or having too much value can be detrimental to long-term portfolio returns.

We will continue to evaluate portfolios for fluctuating exposures to any factor and adjust the portfolios when necessary.

Source: The charts and data referenced here come from Bloomberg.
The S&P 500 Index is a broad based unmanaged index that consists of the common stocks of 500 large capitalization companies, within various industrial sectors, most of which are listed on the New York Stock Exchange. You cannot directly invest in an index.
The Russell 3000 Index is composed of 3000 large U.S. companies, as determined by market capitalization. This portfolio of Securities represents approximately 98% of the investable U.S. equity market. The Russell 3000 Index is comprised of stocks within the Russell 1000 and the Russell 2000 Indices. The index was developed with a base value of 140.00 as of December 31, 1986. You cannot directly invest in an index.
Past performance does not guarantee future results. Any stock market transaction can result in either profit or loss. Additionally, the commentary should also be viewed in the context of the broad market and general economic conditions prevailing during the periods covered by the provided information. Market and economic conditions could change in the future, producing materially different returns. Investment strategies may be subject to various types of risk of loss including, but not limited to, market risk, credit risk, interest rate risk, inflation risk, currency risk and political risk.
This commentary has been prepared solely for informational purposes, and is not an offer to buy or sell, or a solicitation of an offer to buy or sell, any security or instrument or to participate in any particular trading strategy or an offer of investment advisory services. Investment advisory and management services are offered only pursuant to a written Investment Advisory Agreement, which investors are urged to read and consider carefully in determining whether such agreement is suitable for their individual needs and circumstances.
Hanson McClain Advisors and its affiliates and its employees may have positions in and may effect transactions in securities and instruments mentioned in these profiles and reports. Some of the investments discussed or recommended may be unsuitable for certain investors depending on their specific investment objectives and financial position.
Hanson McClain Advisors is an SEC-registered investment advisor that provides advisory services for discretionary individually managed accounts. To request a copy of Hanson McClain Advisors’ current Form ADV Part 2, please call our Compliance department at 916-482-2196 or via email at compliance@hansonmcclain.com.
April 23, 2018