Today, U.S. stock index contracts seem to indicate the possibility of a cash market opening on the downside. Investors may be estimating the possibility of Fed action, and not just this week, but for the rest of the year. Currently, the market may believe that the Federal Reserve will not end the cycle of hikes below the 4 percent level, but above it. This could put pressure on company valuations on Wall Street.
Have low-interest rates helped the Wall Street stock market?
Since 2008, the US stock market has been able to enjoy the ongoing bull market that followed the Great Financial Crisis. Back then, both the financial markets and the economy were supported by very low-interest rates or asset purchase programs. From 2008 until the beginning of 2022, the average federal funds rate was 0.58 percent, and the average price-to-earnings P/E ratio for the entire S&P 500 index had a value of 25.
Currently, the P/E for the S&P 500 is 21.49, according to wsj.com, and the federal funds rate rose to 2.33 percent in September. The market, in turn, seems to expect that it could rise above 4 percent in the next two quarters.
Source: Conotoxia MT5, US500, W1
Current valuations on Wall Street
According to data from wsj.com, the forward P/E ratio, which is the one showing the future earnings of companies in relation to the current stock price, is 17.48 for the S&P 500, while the Nasdaq 100 has a value of 22.57. The current values are 21.49 and 24.97, respectively. This may mean that the market expects that the earnings of U.S. companies may increase next year, which may be good news, but on the other hand, interest rates may rise at the same time. This, in turn, could have a negative impact on company valuations and could cause rates to potentially be lower than they were during a period of low-interest rates.
If investors can choose between the U.S. dollar soon at 4.5 percent interest, or riskier stocks with a P/E ratio of 17, it seems that some of them may choose the U.S. dollar over stocks and thus demand for them may be lower. Another group of investors, on the other hand, may forgo risk in favor of safety until valuations become more attractive relative to interest rate levels.
This, in turn, could happen in one of two ways, either U.S. companies will begin to rapidly expand earnings (which may be difficult in an environment of a slowing economy) or stock prices will find lower levels.
Forecasts for the S&P500 at the end of 2022
According to analysts surveyed by Reuters, the S&P 500 could end this year at 4280 points. This is the median forecast of nearly 50 strategists surveyed by Reuters in the second half of August 2022. The median forecast for 2022 is down from 4400 points in a Reuters survey conducted in late May. Survey respondents, therefore, seem to be optimistic about the index's year-end result after all. This could mean a return to the peaks of August this year.
Daniel Kostecki, Director of the Polish branch of Conotoxia Ltd. (Conotoxia investment service)
Materials, analysis and opinions contained, referenced or provided herein are intended solely for informational and educational purposes. Personal opinion of the author does not represent and should not be constructed as a statement or an investment advice made by Conotoxia Ltd. All indiscriminate reliance on illustrative or informational materials may lead to losses. Past performance is not a reliable indicator of future results.