Equity Strategy: Equity P/E multiples in historical context - earnings vs bond yield spread is now below 2007 levels

Speaker: Mislav Matejka, CFA, Head of Global Equity Strategy

The bulk of the equity performance so far this year, and indeed in the past 18 months, was driven by multiple expansion. Globally, 12m forward earnings are up only 7% from the lows, in contrast to nearly 30% P/E upmove. 2024 EPS projections are again down small in the US ytd, and are more meaningfully lower in Europe. At the same time, bond yields are higher, squeezing ERPs. Global earnings yield vs bond yield differential has been moving lower, to be now below 2007 levels. Central banks are set to deliver some cuts in 2H, but in order to justify current equity valuations, we believe that we will need to see at least some earnings acceleration, as well. Ultimately, equity valuations will end up responding to earnings momentum trends, as there is a clear historical correlation between P/E multiples and earnings revisions. IBES is projecting a sequential pickup in earnings growth between 2023 and 2026, but our concern is that profit growth could underwhelm. If the earnings acceleration fails to materialize, this could act as a constraint, in particular for Cyclical sectors, which are currently trading at price and P/E relative highs vs Defensives. Regionally, China equities showed no rerating over the past 18 months, still trading around 9x forward, which is at absolute and relative lows. Eurozone trailing buybacks yield is at present quite close to US. At the same time, Eurozone dividend yield at 3.0% is much higher than US at 1.3%, and bond yields are meaningfully lower – with these three together resulting in a much better total equity yield vs bond yield for Eurozone equities than for the US, of 240bp – we closed US vs Eurozone OW last week.

This podcast was recorded on 25 March 2024.

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