Equity Strategy: What is the market ex Tech/AI pricing in?

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

 

Our AI basket is up 42% relative to S&P500 this year, SPX over SPW dispersion is at a meaningful 10%, and with Tech sector a standout outperformer, up 25% relative, there is a view among many that taking the Tech/AI out of the market, the rest is quite cautious and already pricing in a potential adverse scenario. We don’t subscribe to this view. The market ex Tech/AI is far from priced for disappointment. In terms of 12m forward P/E multiple, S&P500 is currently at 19.4x, Tech at 27.3x and non-Tech/AI part, the remaining 65% of the index, at 17.4x. This compares to 15.3x historical median, a 10%+ premium. At the low last October, when recession was the base case for most, S&P500 was trading at 15.3x forward P/E, with Tech at 18.1x and SPX ex Tech at 14.5x. Importantly, these P/E multiples are based off forward earnings which are generally near all-time highs, and significantly above the 2019, pre-COVID, levels. Market earnings levels are not depressed in the historical context, and have not seen any absolute downside, apart from some notable subsectors, such as Chemicals, Mining and Transport. Further, the current market valuations need to be put in the context of higher rates than in the past 10-20 years, and meaningfully higher at the short end. If one looks at yield gaps, comparing dividend yield to bond yield, all key DM markets are now trading less attractive than their 20-year average, apart from Japan (OW), which continues to screen cheap. The above considerations add to much higher positioning and more optimistic sentiment than was seen at the start of the year. FOMO is in full swing, there is complacency being built into stocks with VIX at the lows of its range. All this suggests that, if the activity momentum does weaken in 2H, relative to the current projections of no/soft landing, stocks are unlikely to shrug it off, or look through, as they are not priced for disappointment anymore, even if one is to fully take out the Tech/AI/FAANG groups from the equation.

 

This podcast was recorded on 10 July 2023.

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