Advisor Flipbooks

2024 SEI ® Data as of 12/31/2023 unless otherwise indicated. 15 If we had been told ahead of time that the bond yield would approach 5% in October of 2023, we probably would have been even more cautious on technology than we already were. What we failed to appreciate, though, was the huge impact advances in artificial intelligence (AI) would have on the outlook for the major companies that appear to be in the best position to benefit, including Nvidia, Microsoft, and Alphabet. Even after the sharp rise in the so-called "Magnificent Seven" mega-cap technology stocks, the forward PE multiple for technology stocks do not look particularly stretched due to their strong earnings performance in 2023. Exhibit 20 tracks the forward PE multiples of the FactSet universe of large-cap stocks, the U.S. technology sector, and the MSCI World ex USA Index. The sharp declines sustained in 2022 brought forward PE multiples of the tech stocks and the overall U.S. large-cap market to more reasonable levels by the beginning of 2023. They have rebounded since, but remain in a middling range versus recent years. Relative to their longer-term history, however, technology and large-cap U.S. equity valuations still look elevated based on earnings estimates that we believe are probably too optimistic. There recently has been a broadening of the rally to include many of those sectors and styles that badly lagged the big technology stocks for most of 2023. While active managers are rooting for the rally to continue, there may be better opportunities in 2024 in a variety of other equity asset classes, including small-cap and international stocks. Exhibit 20: U.S. large-cap valuations are still rich Source: FactSet, MSCI, SEI. With animal spirits running high, it would not be surprising to see this bull market stumble early in 2024. Yet, there are many crosscurrents that make it difficult to forecast the path of financial assets through the year. A weaker-than-expected economy would likely undercut investors' optimistic earnings growth assumptions. It also could lead to a more aggressive easing in U.S. central-bank monetary policy rated than we anticipate, but a big decline in interest rates already seems to be largely discounted by the markets. More likely, the U.S. economy will not fall off a cliff in the next six months. If it surprises on the upside, however, the Fed will be hard-pressed to find a rationale for cutting rates at all. Under this scenario, company profits may continue to rise, but PE multiples are likely to contract as market participants' interest-rate-cut enthusiasm wanes. The path of inflation is likely to be the single most important determinant of the markets' direction in 2024. That path looks benign at the moment, but we believe it is a mistake to assume that we are heading back to 2% inflation on a sustainable basis. A soft landing of the economy, the widely held view of the day, seems inconsistent with inflation falling below 3% for a prolonged period. Risk assets traditionally have performed well when the Fed starts to cut interest rates, whether a recession materializes or not. According to statistics compiled by Ned Davis Research, a global provider of independent investment research, the S&P 500 Index (price only) has garnered an average gain of 15.2% over the first 12 months after the Fed begins cutting rates and a recession is avoided. There have been seven instances since 1967, with the last such occasion in 1998. The 12-month gain in the S&P 500 Index is nearly as strong when the Fed begins to cut rates and a recession develops—an average rise of 12.8%. There have been 10 occasions when this has occurred since 1954, most recently in July 2019. Although recent corporate earnings have been subpar or negative, PE multiples have risen sharply. We are not joining the bullish crowd because large-cap equities are valued richly and PE ratios have increased significantly over the past year. In previous policy-rate-reducing cycles, PE multiples have tended to contract in the year preceding the first rate reduction as investors anticipate economic problems ahead. In our view, that is not investors' mind-set at the moment. 5 10 15 20 25 30 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 Ratio Price-to-earnings ratios on forward 12-month earnings estimates U.S. World ex U.S. U.S. Technology

• Cover