US Stocks Can’t Climb Much Further, Says Almost Everyone. So Why Does This Strategist Think The Only Way Is Up?

US Stocks Can’t Climb Much Further, Says Almost Everyone. So Why Does This Strategist Think The Only Way Is Up?
Andrew Rummer

over 2 years ago8 mins

Mentioned in story

US stocks are already up some 17% this year, and have been setting new record highs almost every day recently. The market has been so strong that the average Wall Street strategist now thinks stocks will actually suffer a small decline by the end of 2021. 

But there’s one guy who stands head and shoulders above the pack with his optimistic forecast. Last week, Michael Purves of the research firm Tallbacken Capital increased his year-end target for the S&P 500 to a massive 4,800 – that’s nearly 10% above the current level. So we really wanted to bring him on Insights to better understand exactly how he’s become so bullish on stocks.

Michael founded Tallbacken in 2019 after more than 25 years at a selection of major Wall Street banks and hedge funds. And he began by explaining to Finimize analyst Andrew Rummer what makes him so confident that US stocks have further to run, despite a stellar year already. 

Michael Purves: I think you have to step back and take stock of what I call the macro backdrop is. One, we have a really unprecedented fiscal stimulus. We can debate whether that is good or bad for the US economy and whether there are spillover effects that are positive or negative – and to the rest of the world – but it is happening. Even if a lot of the infrastructure bill doesn't come to pass, there still is a lot of momentum from what already has been injected into the economy. But I think the other thing is that there's a concurrence of that fiscal stimulus with monetary stimulus – which has been very aggressive generally over the last decade, but has taken a step forwards, even higher. And it's a concurrence, which is very important. 

There's another leg of the stool here, which is that in the backdrop you have big cap tech – which most of the time over the last six months or so hasn't been the most fashionable trade. One hasn't put in blockbuster gains to be long Microsoft and Amazon and Google and so forth. But as we're learning just this week, those companies are massive earnings machines, and they have a lot less sensitivity to the economy. It's not like an electric utility that generates stable earnings growth, but it's pretty modest and safe. This is high earnings growth that also has remarkable stability to it. 

I’m sort of bullish on Treasuries, but I'm also bullish on the stock market. And that slightly unusual condition, I think, is really a reflection of the fact that we've extreme monetary policy concurring with extreme fiscal policy at the same time. If you really think 10-year interest rates are going to skyrocket, then you really have to think that either the Fed is going to have to change course down the road, or that the bond market will price in some sort of credit premium into the United States. But in all of my analysis that I've done, I can't see any evidence that there's any sort of premium being required by Treasury investors. For Treasuries – whether they're two-year, 10-year, 30-year, across the curve – there's really no premium. That they're saying, “Hey, you guys, Mr US Government, you're issuing too much paper. You have to pay me more to hold that.” Just like you would expect for corporate bonds, right? That's not happening right now. Maybe that can change. But right now, it hasn't been happening. And I don't think it's likely to. 

Andrew Rummer: So if I had to sum up all of that in a sentence or two, would it be fair to say that you're looking at the US stock market, seeing that it's not exactly cheap – maybe it's even expensive – but the Treasury market is even more expensive? And that makes stocks relatively attractive?

Michael: I think so, I think so. But I don't think it's TINA – there is no alternative – right? Absolutely there is a dynamic there, but I don't want to sort of short sell the US equity story. It's just something that, “Oh, it’s the least bad.” It's not that. I mean, if you look at just big cap tech here, for example, right? You have unbelievable financial metrics, coming out of these giant tech companies over and over and over again. They have incredible strategic positions. They have incredible balance sheets – which, by the way, that also helps generate earnings growth in the future through buybacks and so forth if some of their products or services lose some momentum. That creates an enormous flexibility and a strategic advantage for those companies in the markets. I mean, you can't find that anywhere else in the world: giant companies with massive liquidity with amazingly consistent – but also high – earnings growth.

Andrew: The S&P 500 is trading at more than 22x predicted profits, well above its long-term average valuation. And about 3x predicted revenue – almost double the average since the turn of the century. What do you say to those who argue the US stock market is too expensive to be attractive at the moment? 

Michael: I think there's a real view here that the nominal GDP story into next year and ‘23 is really, really unique. And you really want to be exposed to that. Even with, yes, the valuations, the price/earnings multiples are very, very high. And my analysis on the price earnings multiples – I always look at that, of course – and I try to provide context for what it is, given the economic condition and all that kind of stuff. But what is, I think, really, really important is to look at what we call the equity risk premium. So the price/earnings multiple might be 22 or 23 or so, right? If you just make that into a yield. You take the inverse of that, you might get a yield of 4% or so, right? And if you subtract the 10-year Treasury yield from that – call it 1.25% or 1.3%, whatever – you get what we call an equity risk premium. And if that equity risk premium gets too small, I get worried. But what I'm looking at is that it really hasn't been too small this whole rally – because the earnings growth keeps getting better and better and better. And while I think the peak earnings growth is in, we're going to have enough earnings growth through the second half of the year and end through next year. 

Andrew: Back in 2010 you got some attention for coining the phrase “wolf market” to describe the choppy, range-bound trading you were seeing in stocks at the time – neither a bull market nor a bear market. As well as stocks and bonds, I know you also look at crypto markets. Would you say that bitcoin is in a “wolf market” at the moment? 

Michael: I'm not quite sure bitcoin is in a wolf market. It could be. You may well be right. I have refrained from writing a lot about it. Some clients asked me to. And back in April I started writing my first note and I said, look, I don't have a view fundamentally – either bullish or bearish – but just looking at charts like it could be a mid cap stock, it could be a currency pair, it could be a commodity, whatever. Just looking at charts – take the name off the chart – I said when it was that $64,000, $65,000 level, I was like this is starting to look like – gun to my head – it's going to look a lot more bearish in the near to mid term. And I was sort of calling for 40. And then I sort of doubled down again. So I'm saying 30 to 20. It does seem to be finding this sort of range from 30 to 42, which are tactical, important tactical levels. If they can break 42 – decisively break 42 – and who knows, maybe that'll happen this week, that will really help repair a lot of the technical damage. 

I don't really have a view – bullish or bearish – on the fundamental backdrop. But I would just simply say this, that one of the things that got it up into the $60,000 range was the fact that you had institutions starting to talk about it. And even putting out price expectations for it, and so forth. And that was really important, because it was showing it was really starting to be adopted. And you could do some quick math on what if big investor X buys 1% of their portfolio in bitcoin or even 10 basis points of the portfolio in bitcoin? Well, that's a lot of upward pressure on this asset class that is completely limited in supply by design.

From a near-term trading perspective, you have to, I think, be a little bit careful about expecting too much from institutions making big exciting announcements about backing up the truck on crypto. Because I think institutions behave differently than retail investors. And so I think you have to be very sober about your expectations there. And that may just keep it in this sort of range-bound, as you say, “wolf market” there.



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