Investing in stocks can provide investors with the potential for long-term growth and wealth accumulation. In this blog post, we will explore the three key drivers of stock ownership and review the current market conditions to make a compelling case for investing in stocks.
Earnings Growth and Intrinsic Value:
Historically, owning stocks has been advantageous when the underlying company's earnings increase, leading to a rise in its intrinsic value. From 2019 to 2021, the S&P500 index experienced a remarkable annualized earnings growth rate of 13.1%. This growth was fueled by factors such as fiscal stimulus, rising wages, and corporate pricing power.
However, in 2022, earnings growth regressed, with a decline of 1.6% year-over-year in the fourth quarter. Pessimistic strategists raised concerns about an impending recession, predicting a significant decline in earnings for 2023. Yet, the elusive recession of 2023 has not materialized, and earnings estimates for this year have stabilized or even surpassed 2022 levels. Economic data is confirming the surge in positivity and challenging pessimistic forecasts.
Despite the modest earnings growth in 2022, markets experienced a sharp decline. However, the first half of 2023 presented a contrasting scenario, with markets rallying despite flat to downward earnings projections. While the wounds from 2022 have yet to fully heal, it is worth noting that major market indices, such as the equally weighted S&P500, market-cap weighted S&P500, and NASDAQ100, remain around 6% below their all-time highs. Range-bound markets can be frustrating, but they’re not terribly unique. Could this be a pause that leads to a refreshed market?
Valuations and Investment Opportunities:
Equity valuations for the median S&P500 companies have fluctuated between average and expensive over the past 18 months, hovering at the high end of their historical range as of 2Q23. However, a closer look reveals that the 100 cheapest stocks in the index are currently trading at historically low levels. This indicates that the market is not a monolith and presents opportunities for value-seeking investors.
Return of Capital:
Companies have been returning substantial amounts of capital to shareholders through dividends and share buybacks. Over the past 12 months, an impressive $1.5 trillion has been distributed to S&P500 shareholders, resulting in a total shareholder yield of approximately 4%. While this is an attractive option, it is important to consider the interest rate environment. In comparison, one can secure returns exceeding 5% through Treasury bills or FDIC-insured CDs. Therefore, for investors prioritizing income, stocks may not be the optimal choice compared to fixed income and money markets.
Investing in stocks offers the potential for long-term growth and wealth accumulation. Despite the challenges faced by the market in recent years, the current landscape presents opportunities for investors. Earnings estimates have stabilized, economic data is promising, and there are pockets of value within the market. However, it is crucial to consider individual investment goals and risk tolerance when deciding to allocate capital to stocks. Consulting with a financial advisor can provide personalized guidance tailored to an investor's specific needs and circumstances.