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Rising Rates Will Sink The S&P 500

By Michael KramerMarket OverviewMar 19, 2021 06:34AM ET
www.investing.com/analysis/rising-rates-will-sink-the-sp-500-200568337
Rising Rates Will Sink The S&P 500
By Michael Kramer   |  Mar 19, 2021 06:34AM ET
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This article was written exclusively for Investing.com

Low rates and overly bullish expectations have driven the S&P 500 to record highs. But now rates are rising, and that means multiples will need to contract. Just how much those multiples need to fall is the concern, and it could be a lot.  

The S&P 500 trades at around 18 times 2023 earnings estimates of $219.90 per share, according to data from Refinitiv. That is well above the historical average of 14.9 since 2014 and indicates that future earnings growth expectations are very high. Should the PE return to that average over time, it would value the index at 3,256, 16% lower than its value of 3,915 on Mar. 18.

For the S&P 500 PE multiple to come down to 14.9, earnings by 2023 or 2024 would need to soar to $262.41 per share, nearly 19.3% higher than current estimates for 2023—that is unlikely to happen. In fact, the majority of earnings growth is expected to occur in 2021, climbing by 25.5% to $172.07.  Forecasts call for earnings growth to slow in 2022 to 15.2% and 11% in 2023.

Earnings growth would need to rise by more than 32.4% in 2023. Since 1985 we have only had two periods where earnings grew by more than 30%, 1989 and 2011-2012. It seems unlikely that earnings in 2023 will increase by more than 30%. It would take a 19.2% increase in 2024 to reach $262.41. After two straight years of decelerating growth, it seems hard to accomplish.

It doesn't mean that the PE multiple for the S&P 500 has to slip all the way back to 14.9 times 2-year forward earnings estimates. But it does tell us how much earnings growth has been priced into the market. It also suggests that market expectations are much higher than consensus analysts' estimates, potentially by quite a lot.

Low-interest rates play a heavy hand in the S&P 500 valuation too, which makes it even more challenging to quantify. But even when factoring low rates in, the S&P 500 is nearly just as overvalued.

Using 18-month forward estimates to assess the earnings yield of the S&P 500 is a way to measure the valuation against interest rates. The index currently has an earnings yield that trades with a 3.2% premium to the 10-year Treasury note, based on its 18-month forward earnings estimates. It has only seen levels this low or lower in 2018 in both January and October. 

Now, as yields rise across the curve, it will begin to put pressure on the index, compressing multiples and driving the earnings yield higher. The last time the 10-year note traded with a yield of around 1.75%, the S&P 500 earnings yield was roughly 5.7%. That is nearly 85 bps higher than the S&P 500's current earnings yield of 4.85%. It would lower the S&P 500 PE ratio to 17.5, from 20.6, and value the index at 3,374 based on 18 months forward earnings estimates of $192.82.

It seems abundantly clear that expectations for future earnings growth in the S&P 500 are very high. Couple that with lower interest rates that have helped to expand the S&P 500 earnings multiple dramatically. It means that at this point, with rates rising and likely to continue to rise, it is reasonable to think that multiples need to compress, with lower prices to follow.  

Rising Rates Will Sink The S&P 500
 

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Rising Rates Will Sink The S&P 500

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Comments (29)
Joe Messeri
Joe Messeri Mar 22, 2021 7:09PM ET
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11 years in tbe ATM bizI learned one thingCash is kingSave it, sit on it then pounce
Mark Maxwell
MaxAnalysis Mar 21, 2021 10:12PM ET
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We should not be afraid of a return to more normal interest rates. The abnormally low rates during the past decade or so are just as unsustainable as abnormally high rates experienced in the 1970's.
Pwr Strk
Pwr Strk Mar 21, 2021 10:12PM ET
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says who? and why?
Joe Messeri
Joe Messeri Mar 21, 2021 10:12PM ET
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All i know is i only buy a home cashA mortgage is for suckers And if you cant afford it move or live within your means
Steven Jacobs
Steven Jacobs Mar 21, 2021 8:59PM ET
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The moment analyst tell you what to do is when you run the opposite way. Watch the rates begin to dive now that the “experts” have all chimed in
andrew lee
andrew lee Mar 20, 2021 4:56PM ET
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higher rates will eventually sink the economy , jobs and property
Joe Messeri
Joe Messeri Mar 20, 2021 4:56PM ET
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Hope so Im sitting in cash and then i will buy
Gold Fever
Gold Fever Mar 20, 2021 8:36AM ET
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And don’t forget to factor in a ‘projected’ new corporate tax rate.
vijay misra
vijay misra Mar 19, 2021 11:06PM ET
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I do not know which direction market will go. But I am not fighting the market. Safer to be in value and commodity stocks. In next few months Oil will be back at year high value. Look 3 months ahead and invest rather than timing the market with optimism of recovery.
Naeem Baj
Naeem Baj Mar 19, 2021 3:05PM ET
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Yes one day you will be right but until then keep trying.
George Pichurov
George Pichurov Mar 19, 2021 3:05PM ET
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will you show your calculus to prove your point (in case you have one)?
Casador Del Oso
Casador Del Oso Mar 19, 2021 12:21PM ET
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Looking to load up on XOUT once SP500 hits 2200-2700.
Sensen Logic
Sensen Logic Mar 19, 2021 12:01PM ET
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lol your grasp on economics is embarassing
jack hammer
jack hammer Mar 19, 2021 12:01PM ET
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hasnt a clue, seen headline and needed to read and what a joke
George Pichurov
George Pichurov Mar 19, 2021 12:01PM ET
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any proof his calculus is wrong?
Sam Iam
Sam Iam Mar 19, 2021 11:59AM ET
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That's not true. The final phase of the bull market always begins with rising rates. Go back and look at the charts from 1920 through 2020. The Fed increased rates during the Trump era. And, the Fed increased rates beginning in 1927; touched off the bull market that ran into 1929. Historically, the majority always get fooled by the talk of rising rates being bad for markets; they do get tricked for a couple of months. Rising rates attract capital from around the world. Why? Investors receive a better rate of return.
Peter Murton
Peter Murton Mar 19, 2021 11:59AM ET
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A better rate of return by *taking their money out of the stock market* and putting it in bonds instead.  Causing stocks to fall, causing panic selling as the momentum speculators turn...
Russell Lemos
RSL1971 Mar 19, 2021 11:43AM ET
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Good Analysis. Data Driven. Thanks..
jack hammer
jack hammer Mar 19, 2021 11:43AM ET
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blind leading the blind babababab
Roger Miller
Roger Miller Mar 19, 2021 11:40AM ET
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Also, what will happen when (not if) the Fed increases bond buying to limit the interest costs for the government?
Nathan Bae
Nathan Bae Mar 19, 2021 11:38AM ET
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that headline convinced me that you intern at yahoo finance 😵
Roger Miller
Roger Miller Mar 19, 2021 11:38AM ET
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Just curious on how higher inflation, which rates are assuming, factor into your calculations? Inflation inflates everything, including earnings.
Jose Mibaresh
Jose Mibaresh Mar 19, 2021 11:38AM ET
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Most all $SPX companies have restructured debt at historically low rates.  Effect of a small rate rise on earnings for next few years will be minimal.  The current spike will stall and drop as these higher rates find eager buyers from foreign Central Banks.
Roger Miller
Roger Miller Mar 19, 2021 11:38AM ET
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Agreed. The danger is how higher rates will effect the small and medium size business? They are the bigger driver of job and economic growth. Plus, how will the fact that recent borrowing went to fund operations, not growth, effect economic growth?
Jose Mibaresh
Jose Mibaresh Mar 19, 2021 11:38AM ET
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Roger Miller   Small and medium businesses got PPP and EIDL.  Huge amount of free/cheap money to keep them interest rate protected for awhile.  Funding operations instead of growth?  Is there data that supports?
William Steele
William Steele Mar 19, 2021 11:38AM ET
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What is not being disclosed is the fed’s unwinding of bonds from QE and now bond buying. How does the 10 year bond yield affect a company like Apple? Apple has tons of cash. So its not affecting their cost of borrowing. You could make the case that with yields up Apple can make more interest on their cash. It should bolster their price. Investors are not calling their advisors and saying sell my Microsoft and buy the ten year treasury for 1.7%. 17 countries have negative interest rates. Foreignors who want safety are buying the treasury. If investors are selling they are sitting on cash from the sell. They are not buying Treasuries. That notion is a farce.
Jose Mibaresh
Jose Mibaresh Mar 19, 2021 11:38AM ET
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You are so correct.  Many of the tech leaders are cash rich and higher rates mean higher earnings on invested cash.
Manish Tewatia
Manish Tewatia Mar 19, 2021 11:38AM ET
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You have pulled one out of your hat. Fed has consistently mentioned temptoary inflation and pivoting the interest rates at 2% for economy to grow as expected. Yield was 1.75 pre pandemic and no one was questioning the growth on S&P then
Afzal you video AFZAL KHAN
Afzal you video AFZAL KHAN Mar 19, 2021 11:35AM ET
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Hi 😌😌😌👋
Tomasz Iwanow
Tomasz Iwanow Mar 19, 2021 11:34AM ET
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Looking at your past articles your track record looks pretty abysmal. Does Yahoo score author record?
jack hammer
jack hammer Mar 19, 2021 11:34AM ET
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your being polite, i say pathetic
Nirav Pansovora
Nirav Pansovora Mar 19, 2021 11:32AM ET
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right
James Farrell
James Farrell Mar 19, 2021 11:31AM ET
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This article wouldve been more meaninful if it was posted before we were all aware. Trash
Isidro Idulsa
Isidro Idulsa Mar 19, 2021 11:31AM ET
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Shup market manipulor
Nirav Pansovora
Nirav Pansovora Mar 19, 2021 11:31AM ET
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hey wot abt Market rise or down ??
NA NA
NA NA Mar 19, 2021 11:31AM ET
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Please sir how will market react today?? Bull or bearish?????
Modern Matrix
Modern Matrix Mar 19, 2021 11:31AM ET
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will be totally flat
Cali Cartel
Cali Cartel Mar 19, 2021 11:31AM ET
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Lol
peter neal
peter neal Mar 19, 2021 11:10AM ET
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The Fed will lose control of Rates because the Debt will be Junk.
cmo cmo
cmo cmo Mar 19, 2021 9:22AM ET
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Is there significance in started the average calculation at 2014?
 
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