Gloom, not doom. That’s how you could sum up new research from Goldman Sachs Chief U.S. Equity Strategist David Kostin, which came out late Friday night and is the talk of Wall Street as we start the new week. The first line of the note reads: “We estimate the S & P 500 will deliver an annualized nominal total return of 3% during the next 10 years.” Over the past 10 years, according to Goldman’s research, the index posted a 13% annualized total return, which means dividends are included. If taken as gospel, why would anyone put up with the volatility of stocks when they can lock in a risk-free 10-year Treasury yield north of 4%? For starters, nobody knows what the coming decade has in store for the S & P 500. Even Kostin acknowledges that in the second sentence “annualized nominal returns between -1% and +7% represents a range of likely outcomes around our baseline forecast and reflects the uncertainty inherent in forecasting the future.” So, how did Kostin and his Goldman colleagues, all of whom we respect, arrive at this gloomy prediction? Their analysis leans on five key variables: (1) current absolute valuations, (2) market concentration, (3) corporate profitability, (4) interest rates, and (5) the frequency of economy contractions. Those are pretty reasonable variables on which to base a market call. However, they’re all pretty much a top-down approach, which means looking at the big picture and working your way down. There isn’t much discussion about bottom-up fundamentals analysis, which starts with individual companies and the valuations placed on their stocks. That’s fair, generally. The role of a market strategist is to make broad calls on asset classes – in this case, the U.S. large caps that make up the S & P 500 index. But how does this reasonable analysis account for the investment themes that have driven the market to new highs? Do concerns about valuation and concentration take into account that generative artificial intelligence is a once-in-a-generation technological advancement that puts us on a path to completely rethinking the economy? Whether virtual personal assistants, enterprise-level copilots, self-driving cars, automated factories and warehouses — or whatever new age, AI-based advancements come next — we find it hard to see how the next decade of returns doesn’t warrant being exposed to equities. And, it’s not just the tech companies that stand to benefit. We think that AI will ripple through all sectors of the economy and lead to increased efficiency gains that translate into margin expansion — and, in turn, further earnings growth. That view becomes even stronger if you are an active investor. We can’t completely dismiss the dynamics of the S & P 500 or the equity market more broadly — after all, Jim Cramer wrote in his Sunday column about how influential exchange-traded funds (ETFs) and S & P index funds have become in the context of market sway. However, if you’re in Club names Nvidia , or Apple , or Stanley Black & Decker , or Wells Fargo , or whatever name you want to pick, your primary concern, as a long-term investor, must be the business fundamentals and earnings of that specific company. As fundamental investors at the Club, we believe that over the long term, stocks tend to follow the businesses they represent. When you hear calls, like the one from Goldman, talking about the next decade, stay focused on your investments; continue to do the homework; and keep thinking about what matters: the earnings trajectory of the company in question, which is what will figure into the type of return you realize. Here are counterarguments for the five key variables that Goldman cited. Valuation: Yes, the S & P 500 is currently trading at a historically high multiple. However, it’s not enough to think about valuation in a vacuum, you have to account for companies’ growth rates, competitive moats, management’s ability to find new avenues toward growth, and pretty much anything else you can think of that goes into an equity analysis. Market concentration: Yes, the outsized influence of the megacaps is something to be mindful of, and so is the pervasiveness of growth names in the S & P 500 that have driven up the valuation over the years. But does that mean those factors are not warranted? Don’t the megacaps deserve to be where they are given their fundamentals, earnings power and importance to global productivity? We certainly think so. Profitability: If you ask us, the underlying drivers – automation, digitization, artificial intelligence, robotics, cloud computing, electrification, and so on, support the valuations because they are all transforming the economy both here in the U.S. and around the world. If we’re right, they will lead to more efficiencies over time and drive earnings to the point of justifying today’s valuations – and it shouldn’t take 10 years to grow into the valuation either, these names are all set to see valuations drop pretty quickly should estimates be realized. That’s not to say things can’t get stretched in the near term. But on a 10-year time frame, we don’t see any reason to believe that equities won’t remain the best game in town for investors. Interest rates: That’s especially true, with the Federal Reserve looking to take down the cost of borrowing even further. The market sees more rate cuts this year and beyond following the central bank’s jumbo 50-basis-point reduction last month that kicked off its easing campaign. Economy: The conversation has shifted from hard landing versus soft landing to no landing. That is an economic growth path that remains resilient. Nobody is talking about recession anymore or anytime soon. To be sure, that’s not to say we won’t have a recession or economic contractions over the next decade. Predicting the path of the economy in that time frame is arguably a complete shot in the dark. How many saw a global pandemic occurring in 2020, even a year prior? How can we predict even the next few years without yet knowing who will lead the U.S. Calls like the one from Goldman’s always remind me of similar predictions in 2022, which was a terrible year for stocks, that you couldn’t stay invested in the prior bull market’s leaders because the old leaders don’t lead in the new bull market. Had you listened to that line of thinking, you would have dismissed the “Magnificent Seven” — what, because the stocks were so great for so long? Why shouldn’t they lead again if the businesses underlying those stocks are still the latest and greatest? Doesn’t that go against everything a fundamental investor believes in? It’s preposterous to think that leadership is determined by who didn’t lead before and not by corporate fundamentals. Stock leadership is determined by the business itself, not the other way around. Stay focused on the business, and the stock will take care of itself. Going out on a limb and making market calls or calls about individual stocks is not for the faint of heart. Jim talks about it all the time because he plays with an open hand. Members get to see bad calls and the good calls in real-time — and they live on the internet forever. Jim talks about how being right is expected and being wrong haunts him. It’s no different for even the likes of Goldman Sachs, which was one of Jim’s stops in his career on Wall Street. Goldman made a similar long-term call back in the middle of 2017. “In light of high equity valuations and the potential for lower returns, we see the case for a fresh look at alternative strategies,” the firm predicted, pointing to international small-cap stocks as potential area of interest. The S & P 500 has more than doubled since then, advancing about 135%, which amounts to that roughly 13% annual return that Kostin mentioned in his note. Keep in mind, that includes the Fed “autopilot” freakout in late 2018 and a global pandemic that pretty much shut down the entire world and the fallout from which we’re still feeling. (See here for a full list of the stocks in Jim Cramer’s Charitable Trust.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust’s portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.
David Kostin, Goldman Sachs chief U.S. equity strategist, speaks during an interview with CNBC on the floor of the New York Stock Exchange, July 11, 2018.
Brendan McDermid | Reuters
Gloom, not doom.
That’s how you could sum up new research from Goldman Sachs Chief U.S. Equity Strategist David Kostin, which came out late Friday night and is the talk of Wall Street as we start the new week.
