The big things you need to know: First, with the US summer ending and Fall getting underway, we refresh our thoughts on the US equity market outlook in terms of both the near term (where we think risks of a tier 1 / garden variety pullback have grown) and the longer term (where we remain constructive and reiterate our 12-month S&P 500 price target of 8,150, noting that upside risk exists if interest rate fears recede). Second, after taking a break over the past few weeks, we run through some of the key things that jump out in our other updates in terms of valuations, flows, capex, and Small Caps.

If you’d like to hear more, here’s another five minutes.

Starting With Takeaway #1: We’ve Gotten More Concerned About A Pullback In The Near Term, But Still See A Path Higher For The S&P 500 Over The Next 12 Months

Despite our attempt to unplug from financial markets in late August and early September, one thought that we ruminated on over the past few weeks was the difficulties some financial market participants seem to have in separating out near-term views on the outlook for stocks from longer-term ones. With this in mind, we wanted to be clear in this podcast where we stand on each.

When it comes to the near term, we think it’s fair to say that risks of a tier 1 / garden variety pullback of 5-10% have grown for a few reasons.

First, the US equity market is in the middle of a seasonally difficult stretch. Indeed, September has been a down month in 5 of the past 10 years for the S&P 500.

Second, the US midterm elections are coming up. The S&P 500 has been volatile in the back half of the past two midterm election years. Additionally, AI backlash has emerged as a campaign issue in some races, while betting markets are also continuing to suggest that expectations for a Democratic sweep (which our analyst survey work has suggested is less stock-market friendly than a Republican sweep or a split Congress scenario from a policy perspective) have been picking up.

Third, the lack of a resolution in the Iran war remains a headwind for stocks. One ripple effect seen so far is that while these indices are not hitting new lows, the improvement in consumer confidence / sentiment that we’d gotten some hints of early in the summer has faded.

Fourth, investor angst over the path of inflation, the Fed, and interest rates broadly are stubbornly sticking around. Aside from the broader wobble in stocks that has accompanied the recent increases in Fed hike expectations, one of the clearest stock market impacts we’ve seen from this has been with Small Caps, which have been underperforming Large Caps since late June.

While each of these are concerns to be taken seriously, our four tiers of fear framework reminds us that in the post-GFC era, pullbacks in the S&P 500 tend to be contained in the 5-10% range (peak to trough, intra-year) unless serious concerns about a recession or interest rate shock (similar to the major moves up in 10-year yields and Fed funds in 2022) emerge.

When we refocus on the longer term, and on the models that we use to derive our S&P 500 price target, we still see a number of reasons to stay optimistic and so are sticking with our 8,150 forecast, which represents a gain of slightly more than 6% from the September 8th close. Note, our price target is a 12-month forecast and (unlike those of most other strategists) is not an articulation of where we expect the S&P 500 to be on December 31 of this year.

As our regular readers are well aware, we utilize five different models to come up with our S&P 500 price target. At the moment, all five are pointing to upside in the year ahead.

Our sentiment model is currently sitting at a level (moderately bearish) that tends to be followed by a gain of more than 10% in the S&P 500 over the next 12 months.

While our earnings yield gap model does acknowledge that the appeal for US equities has eroded relative to bonds, this indicator is still at a level that has tended to be followed by healthy gains in the stock market over the next 12 months (more than 14%).

And when it comes to the Fed, our analysis shows that stocks tend to perform well (gaining more than 13% on average) when the Fed hikes up to 100 basis points in a 12-month time frame, but that it’s not until the Fed moves more than that when we start to see equity returns suffer. Note, according to our Rates Strategy team, market pricing anticipates 2-3 hikes over the next 12 months.

Wrapping up with Takeaway #2: What Else Jumps Out

• US equities still look slightly attractive relative to non-US equities on forward P/E using a 5-year time frame, which leads us to give the US a slight edge over non-US going forward.

• Also on US / non-US, US equity flows have weakened while European equity flows have improved, but it is a stretch to say we’re seeing rotation from US to Europe on our flow work.

• With 2Q stats now mostly in, the recovery in capex growth for the non-top 10 market cap names in the S&P 500 has become more apparent, but still appears to be early innings.

• Among the S&P 500 sectors, Financials now looks slightly expensive with median forward P/Es on both an absolute and relative basis a bit above their long-term average. We remain overweight this sector but do see this as a yellow flag to keep an eye on.

• Small Caps remain challenged by rate hike angst, but we do see Friday’s strong NFP print as a positive data point for this segment of the US equity market.

That’s all for now. Thanks for listening. And be sure to reach out to your RBC representative with any questions.