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Stock Market 2020: JPMorgan sees the S&P climbing to 3,400

As the end of the year and the decade approaches, Wall Street strategists have been delivering their expectations about where the stock market will close out 2020.

The next year will bring with it myriad market-moving events, including the 2020 presidential elections and next phases in U.S.-China trade relations. Market pundits across Wall Street have each delivered their ideas for how these and other catalysts will shape equity markets in 2020.

Their theses come as stocks have flirted with fresh record highs time and again in the fourth quarter of 2019, as global growth concerns receded from a fever pitch earlier this year. As of mid-November, the S&P 500 was up more than 23% for the year-to-date.

Here’s a summary of what some of Wall Street’s top strategists are telling their clients for next year, updated as new 2020 views become available.

JPMorgan (Target: 3,400; EPS: $180) – ‘The profit cycle is at an inflection and should rebound’ 

Appreciation in the S&P 500 next year will be driven by easier monetary policy, trade deal progress and positive sentiment around the 2020 elections, according to JPMorgan strategist Dubravko Lakos-Bujas.

“Next year, we see the S&P 500 rising further to 3,400 on global cycle recovery, partial trade deal, pro-growth election-year rhetoric and neutral investor positioning,” he said.

Domestic stocks faced two main headwinds in 2019 – tighter monetary policy and higher tariffs – which in turn contributed to a slowdown in global business and profit growth, Lakos-Bujas said. He estimated the cumulative damage from tariffs alone slowed 2019 earnings per share growth down to just 1%, from an estimated rise of 8% in absence of import duties.

“Heading into 2020 these drags are expected to at least partially reverse,” Lakos-Bujas said. “Easier monetary and fiscal policies are in motion globally with [the] majority of benefits expected to flow through the economy in the coming quarters.”

And for trade, Lakos-Bujas expects an at least partial deal between the U.S. and China sometime ahead of the 2020 election. Upside for earnings growth and S&P 500 appreciation will “depend primarily on the magnitude and timing of the trade deal(s),” he said.

In the event of a full deal and reversal of all tariffs, EPS would rise to as much as $184, or an increase of 12% a year. On the flip side, an escalation of tensions and increase in tariffs would lead to EPS growth of just 4% to $171, JPMorgan estimates.

But the firm’s base case scenario of $180 in EPS implies a partial trade deal and roll-back of List 4A tariffs first applied in early September. By JPMorgan’s measure, earnings growth “likely bottomed in 3Q and should stabilize in 4Q [of 2019], followed by an earnings recovery in 1H20 (+5%) and stronger growth in 2H20 (+10%).

“The profit cycle is at an inflection and should rebound,” Lakos-Bujas said.

On positioning, Lakos-Bujas said the rotation out of momentum and into value stocks beginning in late August is less than halfway complete, based on historical trends of similar rotations.

“The second phase should be propelled by better macro-fundamental data and confirmation of cycle recovery,” he said. “Looking ahead to 1Q20, we recommend investors overweight Value, stay neutral Growth, and underweight Momentum, Low Vol and Quality.”

JPMorgan price target initiated December 9, 2019

Canaccord Genuity (Target: 3,440; EPS: $172) – ‘A move back toward the peak valuation of this cycle’ 

Canaccord Genuity cites the Federal Reserve’s suggested pause on interest rate adjustments as creating a tailwind for both economic and earnings growth, contributing to a higher S&P 500 in 2019. In an updated note, the firm raised its price target for the S&P 500 to 3,440, from its 3,350 price target initiated in May.

“The bullish story for 2019 was based on the economy experiencing a non-recession slowdown that was dramatic enough to cause the Fed to reverse the policy mistakes made in late 2018,” Canaccord Genuity analyst Tony Dwyer wrote in a note.

The Fed’s pivot to easing this year and bringing key rates down by a total of 75 basis points has driven a rebound in U.S. economic data and will likely contribute to a pick-up in earnings growth next year, Dwyer said. Canaccord expects EPS growth will be between 5-6% in 2020, but from a “lower base” of $162 a share in 2019, bringing their EPS estimate for 2020 down to $172 from the $176 seen previously.

“In addition to raising our growth rate assumption, we are also raising our multiple assumption from 19x to 20x,” Dwyer said. “This reflects the Fed literally telling us they will ease further on any weakness and will not raise rates until inflation is meaningfully above their target, which likely won’t happen for the foreseeable future.”

Dwyer outlined a series of interconnected factors that informed his bullish thesis for the S&P 500 next year. He expects monetary policy will remain accommodative due to persistently low core inflationary signals. This will in turn drive an abundance of available credit for companies and consumers to use to invest and grow.

“We expect a move back toward the peak valuation of this cycle as long as our core fundamental thesis driven by credit remains positive,” Dwyer said.

Canaccord Genuity price target updated December 9. Price target was introduced at 3,350 on May 7, 2019.

Jefferies (Target: 3,300; EPS: $176): ‘Focused on the traditional drivers for U.S. markets’

Stocks will stabilize and appreciate slightly in 2020 after more than a year’s worth of choppy equity trading, which had been driven by gyrating interest rates and an ongoing U.S.-China trade war, according to Jefferies.

“Just over twelve months ago, the equity markets were selling off as the U.S. fixed income markets choked on expectations of further rate hikes,” equity strategist Sean Darby said. But in the year since, the Fed cut rates three times and returned to making large-scale asset purchases, which in part helped to drive a more than 20% gain in the S&P 500 in 2019.

“If 2018 was a year of policy over-tightening then 2019 was a year of unwinding policy mistakes,” Darby said. “Hence, 2020 looks to be the year of normalization as a number of macro factors recede.”

Darby also noted that rhetoric around U.S.-China trade discussions has become more upbeat recently, alleviating a key overhang of trade policy uncertainty for major companies. Plus, 2020 earnings will have fully lapped impacts from the Trump administration’s 2018 corporate tax cuts, which had driven tough comparisons and lowered earnings expectations for companies throughout much of 2019.

“2020 ought to see some normalization as earnings growth moves back in tandem with GDP,” Darby said. “In summary, equity investors are likely to be focused on the traditional drivers for U.S. markets namely earnings growth.”

Darby conceded that the 2020 presidential elections could generate some idiosyncratic risks for sectors like Health Care, Financials and Technology, depending on the prevailing policies of newly elected officials. His base case, however, is that neither party will win both the House and the Senate, creating a hurdle for politicians trying to implement policies that could impact any of these companies’ operations.

Heading into 2020, sector leadership will likely be driven by cyclicals, assuming the recent upturn in global economic data carries through next year, Darby said.

“S&P 500 valuations don’t necessarily start off as inexpensive as other bourses but the cyclicals offer a lot of earnings upside if the global economy begins to resynchronize,” Darby said. “Moreover, 2019 saw unprecedented risk aversion and there is plenty of room for assets to move away from fixed income into equities given the potential inflation risks.”

“In turn, this leads us to the biggest risk for 2020 which is a switch from low volatility, bond proxies into the real economy, cyclical growth stocks,” he said.

“We expect earnings to accelerate back to trend of circa 10%, real interest rates to remain negative alongside a steep yield curve,” Darby said. “This ought to mean that the S&P 500 can advance to 3,300. We upgrade the S&P 500 to Modestly Bullish.”

Jefferies is bullish on the consumer discretionary, energy, financials, industrial and materials sectors heading into 2020. The firm is bearish on consumer staples, real estate and utilities.

Jefferies price target initiated December 6, 2019

Barclays (Target: 3,300; EPS: $166): ‘The recovery from the current slowdown is unlikely to be V-shaped’

Barclays’ view for the S&P 500 and global economies this year is just lukewarm: Growth won’t get much more sluggish, but it won’t rocket higher, either.

“For both the U.S. and Europe, our estimates for modest EPS [earnings per share] growth are predicated on the view that the current global slowdown in manufacturing is unlike to morph into a full recession next year and will thus remain a soft patch,” equity strategist Maneesh Deshpande said.

“In particular, we expect EM growth to start rebounding, Japanese and U.S. growth to pick up after declining a bit further, and EU growth to remain at current low levels,” Deshpande added, citing a recent pick-up in global manufacturing purchasing managers’ indices.

“However, in our opinion, the recovery from the current slowdown is unlike to be V-shaped/symmetric. The main reason for this is that, contrary to popular belief, the U.S.-China trade war has not been the sole contributor to the economic slowdown, and the self-imposed deleveraging by China to slow credit growth has also played an important role,” Deshpande added. He said he believes non-U.S. economic growth “peaked in late 2017 much before the start of the U.S.-China trade war.”

With all this in mind, Deshpande considers the current market environment to be akin to historical “easy soft patches,” wherein the central bank steps in and cuts interest rates to spur growth even in absence of an official recession.

During the previous five “soft patches” since the 1950s – which took place in 1966, 1984, 1989, 1995 and 1998 – U.S. equities have risen by about 40%, on average, in the two years after the start of a Fed easing cycle, mostly driven by an expansion in valuation as opposed to growth in earnings.  

Looking to next year, Deshpande also said European equities may outperform against U.S. stocks, particularly as political risks like Brexit wane across the pond but pick up in the U.S. amid the 2020 elections. He expects Europe’s Stoxx 600 index (^STOXX) will appreciate by 5.3% in 2020 to 430, representing about the same level of appreciation as anticipated for the S&P 500.

“While our price targets give about the same upside for the two regions in 2020, we believe that Europe offers a mildly more attractive risk-reward given its relatively more attractive valuation, higher leverage to global/EM activity and cautious investor positioning,” Deshpande said.   

Barclays S&P 500 price target initiated November 26, 2019

Bank of America Merrill Lynch (Target: 3,300; EPS: $177): 5 key trends will drive stocks next year

A handful of rotations will take place in 2020 and ultimately lead to modest appreciation in the S&P 500, according to Bank of America Merrill Lynch.

Strategist Savita Subramanian sees the 2020 presidential elections as the marquee event for next year, with the policy implications of the winner of the White House serving as a key consideration for investors.  

But elections aside, Subramanian outlined five key rotations that will punctuate the coming year, leading to a shift in leadership among sectors and asset classes.

First will be a rotation from bonds to stocks, she said.

“The allocation decision is a no-brainer: the S&P dividend yield beats the 10-year [Treasury yield],” Subramanian said. “This rarely happens, but 94% of the time that it has, stocks have beaten bonds (by ~20ppt avg.) over the next 12 months.”

Second, Subramanian said she sees emerging markets (EM) and European equities as potentially offering more upside than U.S. stocks, especially against a backdrop of low interest rates abroad and already packed positioning in domestic equities. But for those who remain parked in U.S. stocks, Subramanian suggested a preference for domestically focused sectors like Financials and Discretionary, given an increasing tilt toward protectionism from U.S. and global political leaders.

Third, Subramanian called out a shift from the trade war to a “tech war,” as tech companies increasingly become caught in the crosshairs of geopolitical tensions. Bank of America downgraded the Information Technology sector to Marketweight from Overweight in consideration of these risks. 

Fourth will be a shift to value stocks from their growth and momentum counterparts. The former refers to stocks typically valued trading at low multiples of their net worth.

“Value has never been this cheap,” Subramanian said, adding that “Value’s market cap has shriveled to levels historically followed by recoveries.” Financials, the largest value sector, is Bank of America’s highest conviction Overweight sector call.

Fifth and finally, Subramanian highlighted an increasing emphasis among investors on environmental, social and governance considerations, indicating that companies outperforming next year may coincide with those most heavily focused on maximizing their social impact.

Bank of America Merrill Lynch price target initiated November 20, 2019

LPL Financial (Target: 3,250-3,300; EPS: $175): Trade progress could help stocks in 2020  

Stocks could be heading marginally higher in 2020, but a still-tumultuous geopolitical environment has clouded visibility heading into next year, according to LPL Financial. 

The firm’s base case estimate is for S&P 500 earnings per share to rise to $175 in 2020, up from an estimated $165 for 2019 EPS. The forecast assumes further progress on trade talks between the U.S. and China, including at least a modest de-escalation of tariffs. 

“Further progress on the U.S.-China trade conflict in early 2020 could help keep U.S. economic growth at or above the trend for the current economic expansion and support corporate revenue growth,” LPL strategists led by John Lynch said in a report. “We believe any small steps forward on trade could increase business confidence and spark capital investment, lifting corporate profits.” 

However, “until we have clarity on trade, we would not expect 2020 earnings to improve meaningfully from 2019 levels,” Lynch said.

LPL’s 2020 year-end fair value target range for the S&P 500 is between 3,250 and 3,300, implying a trailing price-to-earnings ratio of 18.75x. The firm believes this valuation will be supported as inflation remains muted and interest rates hold at relatively low levels.

The low end of LPL’s range implies appreciation of just about 4% for the S&P 500 from closing prices December 2, versus the more than 20% advance the index has posted so far in 2019. But domestic equities still remain more attractive than those from international developed markets, LPL said, given that the U.S. economic backdrop and prospects for corporate profitability still look stronger than those of many developed global peers.

“We recommend tactical investors consider focusing the majority of their equities allocations here at home as U.S. economic growth expectations have held up well compared with global trends,” Lynch said.

“We recommend a balance of growth and value styles, with an emphasis on large cap stocks over their small cap counterparts as the business cycle moves into its latter stages,” he added. “We continue to prefer cyclical sectors as the U.S. economic expansion continues, and technology still leads this bull market. We expect industrials to benefit from a potential pickup in capital spending if there is further progress on a U.S.-China trade agreement.”

LPL Research price target introduced December 3, 2019.

Deutsche Bank (Target: 3,250; EPS: $175): Stretched valuations may lead to limited upside next year

Deutsche Bank sees a sideways market in 2020.

The firm’s chief strategist Binky Chadha, one of the more bullish prognosticators on Wall Street for the S&P 500 this year, is calling for the index to end 2020 at 3,250 – the same price target he had for the blue-chip index in 2019. That implies just 4% appreciation from closing prices on December 2.

Equity traders may have gotten ahead of themselves in pricing in a rebound in macroeconomic data and corporate earnings, Chadha said, which could keep the S&P 500 range-bound next year.

“What’s priced in? A strong rebound in macro growth with the ISMs [Institute for Supply Management’s purchasing managers’ indices] rising to around 57 and earnings growth to 15%,” Chadha said. “This year the S&P 500 has climbed to new all-time highs despite continued slowing in both, suggesting the markets are pricing in a rebound in fundamentals, supported by recent green shoots optimism.”

After appreciating 20% this year, the S&P 500 has seen its multiple expand 19.1x earnings. At this level, valuations are at the high of their historical range, “having been higher only 10% of the time over the last 85 years,” Chadha said.

However, while this multiple is relatively high on a historical basis, “it is not too far above fair value (18.7x) indicated by its fundamental historical drivers,” Chadha said. These include earnings relative to normalized levels, the payout ratio, interest rates and inflation volatility.

“Where the multiple goes over the course of the next year will depend on how these drivers evolve,” Chadha said.

Aside from typical fundamental drivers, next year’s elections will also provide a market-moving event for traders to eye. As Chadha sees it, the risks from the election will be to the downside for equities.

“The US presidential election will make it difficult for the fundamental uncertainty emanating from US trade policy, which has plagued corporates and been a key driver of the US and global growth slowdowns, to dissipate completely,” Chadha said. “This argues for a break in the downward trajectory of growth and some bounce, not a rebound to the peaks of this cycle as the markets are already pricing.”

Deutsche Bank price target introduced December 2, 2019.

Goldman Sachs (Target: 3,400; EPS: $174): 2020 election outcome a risk to equities

A unified government after the 2020 elections represents a downside risk to stocks, according to Goldman Sachs. 

In a revised equity outlook, Goldman Sachs strategist David Kostin lowered his earnings per share view for S&P 500 companies to $174, from the $177 seen previously. While he maintained his previous base case target for the blue-chip index to hit 3,400 in 2020, he noted that political factors could prevent stocks from appreciating to this level.

“A durable profit cycle and continued economic expansion will lift the S&P 500 index by 5% to 3,250 in early 2020,” Kostin said. “However, rising political and policy uncertainty will keep the index range-bound for most of next year.”

The outcome of the 2020 election remains a primary source of uncertainty – and not just over who’s sitting in the White House, but also over where control lies in Congress.  

“In the United States, equity returns during periods of divided federal government have typically exceeded returns achieved when one political party controls the White House, Senate, and House of Representatives,” Kostin said. “Since 1928, excluding recessions, when the federal government was controlled by a single party, the S&P 500 median 12-month return equaled 9%.”

In contrast, the median annual return under a divided government was 12%, Kostin said.

“During the next 11 months, shifting electoral prospects of candidates will be reflected in real-time prediction markets and sector and stock performance,” he added. “During the subsequent two months, S&P 500 performance will depend on the actual election outcome.”

A united government would facilitate easier passage of policy touted by some early candidates, including a proposed roll-back to the 2017 corporate tax cut. Goldman Sachs estimated that every one percentage point change in the effective corporate tax rate would translate to an about 1% change in S&P 500 EPS.

“A unified federal government post-election could prompt investors to assume the tax cut is reversed and lower projected 2021 EPS to $162 (-7% year/year growth), compressing the P/E multiple to 16x consistent with an index level of 2,600,” Kostin said.

That said, prediction markets current suggest that the most likely 2020 election outcome is a divided government.

In this scenario, “Clarification of policy will expand the P/E multiple to 18.6x and push the index to 3,400 by year-end 2020,” Kostin said.

Goldman Sachs EPS projection revised November 25, 2019.

BMO Capital Markets (Target: 3,400; EPS $176) – ‘Notorious Bull Market’ still has staying power

According to BMO Capital Markets, the Federal Reserve has been to equities what Notorious B.I.G., Tupac and Snoop Dogg were to hip hop: a catalyst for a new epoch.

“Many believe the height of 1990s hip hop was 1995 to 1997, an era that helped define popular music and culture for years to come,” BMO chief investment strategist Brian Belski wrote in a note. “We believe the same can be said to a large degree for equity markets.”

Namely, the Federal Reserve’s pivot to cutting interest rates beginning in 1995 “ushered in a goldilocks period defined by low rates, steady growth and U.S. large cap quality stock outperformance,” Belski explained. A quarter-century later, “a similar environment is currently under way,” he added.

As Belski sees it, the Fed’s shift to cutting interest rates three time this year, after hiking them four times in 2018, set the stage for U.S. large cap, high quality and brand name companies to outperform their global counterparts.

Heading into 2020, Belski’s “Notorious Bull Market” is poised to continue for U.S. equities, with a still-accommodative Fed and other factors at play.  

BMO’s bullish base case for the S&P 500 to end next year at 3,400 is predicated on three main factors: the firm’s expectation that the Federal Reserve will hold rates at least through the 2020 presidential elections, that improving prospects of a phase one U.S.-China trade agreement will continue easing markets’ worries and that investors will continue seeking out firms with stable earnings, thereby favoring U.S. companies.

BMO acknowledged a bear case scenario of 2,775 for the S&P 500, in the event that trade negotiations lose momentum, tariffs cut into margins and multiples contract quickly as investors begin pricing in a downturn. But in BMO’s bull case scenario, the S&P 500 would surge to 3,675, likely in the event of a “substantial trade agreement between the U.S. and China, igniting corporate investment and propelling global growth.”

But regardless of where on the dart board the S&P 500 ultimately ends in 2020, BMO remained resolute in its conviction that this more than decades-long bull market is set to last.

“We made a prediction in 2010, that U.S. stocks were likely entering a 20-year secular bull market,” Belski said. “We are sticking with that call.”

“To be clear, we are not maintaining our longer-term bullish position to be stubborn,” he added. “Rather, many of the same core principles remain in place – namely, U.S. corporate superiority in terms of earnings stability, cash flow, innovation, product and services, and company management.”

BMO Capital Markets price target introduced Nov. 21

Stifel (Target: 3,265; EPS: $169.63): Stocks may go down before they go up

Trade talks will be a key driver of the stock market’s appreciation – or lack thereof – heading into 2020, according to Stifel strategist Barry Bannister.

Bannister updated his target for the S&P 500 to end 2020 at 3,265, up from a previous target of 3,100. The new view also includes a recommendation for a revamped investment strategy: favoring a long cyclical/short defensive posturing, versus the defensives and bond proxies play the firm had leaned on for the past year through October.

“Although we see a return of +5% for the S&P 500 in 2020, we see twice that return or 10% for Long Cyclical / Short Defensive industries in 2020,” Bannister said. 

Like many other strategists, Bannister highlighted the recent rotation to cyclical stocks as a reflection that the Fed’s recent campaign to unwind some of its interest rate hikes through 2018 had revitalized high growth companies. And by Bannister’s measure, only about one-third of the cyclical rotation his firm predicts will take place by December 2020 has so far occurred.

“The Fed has (belatedly) done its part to revive cyclical growth, so now it’s up to trade,” Bannister said, with emphasis his.

Stifel thinks cyclical stocks’ run-up, and the S&P 500 as a whole, will follow the direction of manufacturing activity growth, a sector that comprises a small portion of the overall domestic economy but is highly levered to U.S.-China trade talks.

By Bannister’s measure, activity in this sector is poised to trend higher: He anticipates that the Institute of Supply Management’s manufacturing purchasing managers’ index (PMI) will rise to 53 in 2020, indicating expansion at a faster rate, versus this past October’s contractionary reading of 48.3. 

But the S&P 500 may already have gotten ahead of itself, running up before PMIs have actually staged their recovery. As a result, a market correction, or drop of around 10% in the S&P 500, could take place before an anticipated rebound next year.

“One wrinkle is that our S&P 500 price model also suggests a brief late-2019 S&P 500 correction, perhaps with trade policy as a fundamental catalyst,” Bannister said.

Stifel price target of 3,265 raised from 3,100 on November 20, 2019

Credit Suisse (Target: 3,425; EPS $173) – ‘Cyclical leadership’

Cyclical stocks will lead next year’s market rally, according to Credit Suisse.

The firm’s S&P 500 price target of 3,425 implies an about 9.8% gain from closing prices Nov. 15. The upbeat outlook assumes that S&P 500 revenues will grow in-line with nominal gross domestic product, margin headwinds will recede and become “substantially less onerous,” and buybacks will remain robust.

And next year reacceleration in economic growth will drive a rotation to cyclical stocks, Golub added. This would reverse a trend from earlier this year when growth stocks outperformed and value stocks lagged.

“Economic data has decelerated over the past 1+ years, resulting in the outperformance of Low Vol and Growth stocks, at the expense of value,” Golub said. “This leadership shifted more recently, on aggressive Fed action (3 cuts) and improving economics.

“Our work indicates that this rotation will continue through the early part of 2020. Absent a ‘V’ shaped bounce in the data (similar to 2016-2017), we expect this rotation to fade as we move further into next year,” he added.

Credit Suisse upgraded “economically-sensitive groups” including Financials, Industrials and Materials to Overweight from Market Weight, and Energy to Market Weight from Underweight.

The firm downgraded defensive sectors including Staples, Utilities and REITS to Underweight from Market Weight, and Communications from Overweight to Market Weight.

Credit Suisse price target introduced November 18, 2019

A trader looks up at a chart on his computer screen while working on the floor of the New York Stock Exchange. (UNITED STATES - Tags: BUSINESS)

Morgan Stanley (Target: 3,000; EPS $162) – ‘U.S. remains our least preferred region’

U.S. equities may underperform their global counterparts next year, according to Morgan Stanley.

The firm set its base case S&P 500 target at 3,000, implying an about 3.9% decline from closing prices on Nov. 15.

In a more optimistic bull case, the S&P 500 could reach as high as 3,250, strategists including Andrew Sheets and Michael Wilson wrote in a note. But their more pessimistic bear case sees the S&P 500 falling to as low as 2,750.  

“In the U.S., we continue to expect earnings growth to remain under pressure as our earnings model projects another year of flat to modestly down earnings as margin pressures continue to mount,” the analysts said. “The forecasts from our economics team, which have slow growth and accelerating wage gains, are likely to amplify these margin pressures and weigh on the outlook for earnings further, which should translate into better earnings growth outside the U.S.” 

U.S. stocks have been the leader in global equities so far in 2019, and European shares have also posted sizable gains. Stocks in both regions have benefited from easier monetary policy and lower interest rates as their respective central banks stepped in to help spur growth.

While acknowledging a likely rebound in global economic growth next year, the analysts said they expect any such pickup in growth will be mild by historical standards.

“The path for global growth may look better next year, but our economists project that the rebound is only to modest levels of economic growth that, in many cases, are still below trend,” the analysts said. “With many valuations across major equity markets already having rebounded to slightly above five-year averages, we don’t think it prudent to rely on more multiple expansion in what is still a fairly tepid growth environment. This means that forward returns at this point need to be driven by a realization of the earnings growth that is already in the price.”

“The U.S. remains our least preferred region, given limited scope for multiple rerating or incremental flows, and earnings expectations that look materially too high to us,” the analysts said.

 “We see the biggest potential upside in markets with a clearer path to achievable earnings growth (Japan and EM) or scope for some multiple re-rating on falling political risks,” with Europe being one such example, they added.

Morgan Stanley note published Nov. 17, 2019

UBS (Target: 3,000; EPS: $170) – ‘Equities have further to discount’

UBS also thinks stocks are going down in 2020.

As UBS equity strategist Francois Trahan sees it, “investor sentiment toward equities has turned overly optimistic.” In recent weeks, bets against renewed volatility (^VIX) have risen as the S&P 500 sailed to record levels.

“Volatility shorts have seen more intensity in recent weeks than at any point since the recovery of 2009, highlighting the consensus belief that financial markets are moving past the slowdown.”

Heading into the fourth quarter of 2019, stocks were led higher by cyclicals like transports and energy as economic data improved from the doldrums earlier this year. But these sectors may not continue to sustainably until leading economic indicators have “truly bottomed for the cycle,” Trahan said.

Starting around October, there’s been “a significant change in sentiment, and there is now a widespread perception among investors that equities have fully discounted the U.S. economic slowdown and begun to price in an eventual recovery,” Trahan said. “It is certainly true that the S&P 500 index is a leading indicator of the U.S. economy. What is not so clear is whether the S&P 500 has appropriately priced in the slowdown.”

“In the right context, it appears more likely that the slowdown is not behind us just yet. We believe the recovery WILL get priced in at some point in 2020, but the process has not begun at this stage,” he said.

Historically, it’s taken about two years for a change in U.S. interest rates to be fully reflected in U.S. GDP, Trahan said. With that logic, given that interest rates last hit their peak in late 2018 after the Fed’s fourth rate hike of that year, GDP should reach a bottom in late 2020. Most previous business cycles saw the S&P 500 hit a low and then start to recover 5-7 months before GDP bottomed, he added, based on a review of the seven “major Fed-induced slowdowns” of the last five decades.

“If history was a perfect guide, then the U.S. economy would bottom exactly as interest rates suggest in November of 2020 and equities would begin to discount that in Q2 '20 or thereabouts,” Trahan said. “Who knows if things will work out exactly that way but we expect this dynamic to play out in early 2020.”

“If instead we went with consensus and assumed that the S&P 500 is already pricing in a recovery, then the low point in the S&P 500's return was this past June, which would argue that the low point in GDP growth would be in Q4 of 2019, or about six months later. That would be a full year before what interest rates suggest and a first in the modern era,” Trahan said.

“Nothing is impossible, of course, but it seems more likely to us that U.S. equities have further to discount,” he said.

UBS report issued November 13, 2019

Citi (Target: 3,300; EPS: $174.25) – Some upside, some risks

Earnings growth will help lead the S&P 500 higher in 2020, but there are still some risks to the outlook, according to Citi’s chief U.S. equity strategist Tobias Levkovich.

Citi’s “Panic/Euphoria Model” has moved back to a neutral level amid stocks’ recent rally after edging toward “panic” territory a few weeks prior, underscoring improving investor sentiment, Levkovich said in a slide deck report.

Next year will likely see low-single-digit EPS growth for S&P 500 companies, Levkovich said, with the Street having pared back high expectations after 2018’s initial earnings estimates for 2019 proved overly optimistic.

Risks to the 2020 outlook will include ongoing geopolitical and trade uncertainty and politics, given potential changes to tax and fiscal policies, he added.

In keeping with the trend seen among equity flows in late 2019, value stocks are largely expected to outperform their growth counterparts, Levkovich said. By groups, Citi recommended capital goods, energy, health care equipment and services, insurance, pharmaceuticals, biotechnology and life sciences, semiconductors and retailing as Overweight. It rated autos and components, consumer durables and apparel, household and personal products, telecom services, transportation and utilities as Underweight.

Citi price target introduced September 20, 2019

Emily McCormick is a reporter for Yahoo Finance. Follow her on Twitter: @emily_mcck

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