North America Equity Research
10 December 2009
2010 Outlook: Back to Business
Visibility in 1H. YE Target Is 1300
US Equity StrategyThomas J Lee, CFA
Daniel M McElligott
(1-212) email@example.comJ.P. Morgan Securities Inc.
See page 141 for analyst certification and important disclosures.
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Year end 2010 S&P 500 price target
S&P EPS Estimates
JPM Bottom-UpStrategy Street
2009E $63.00 $61.332010E $80.00 +27% $77.682011E $90.00 +13% $94.00
Housing bottoms in 1Q
Credit eases in 2010
Possible full job recovery
Early in cycle for Cyclicals
Favor “Bad Balance Sheets”
“The error of optimism dies in the crisis, but in dying it gives birth to an error of pessimism. This new error is born, not an infant, but a giant
. . . .
A.C. Pigou, as quoted by W. Mitchell “
Business Cycles: The Problem . . .
The outlook for U.S. equities in 2010 is positive, in our view, reflecting both abroadening of the U.S. economic recovery as well as the Fed on hold for a sustainedperiod. This is close to the “Goldilocks” scenario for equities, as expressed by manyPMs - a slow U-shaped jobless GDP recovery that should keep the Fedaccommodative for a prolonged length of time. Thus, equities are likely to gain inattractiveness relative to credit, given their inherent greater leverage to GDP growth.
It is too early to gauge whether the equity recovery since March ’09 is the start of a secular, multiyear bull market or one of a shorter (cyclical) variety with amedian duration of 18 months. The difference being whether sufficient conditionsexist to create an above-average GDP recovery: (i) pent-up demand; (ii) strongpayrolls recovery; (iii) easing household and small-biz credit availability.
This bull market is entering its 9th month, making this the 20th bull market of such duration since 1900. Of the preceding 19 periods, the S&P 500 rose 95% of the time between month-10 to month-22 (Jan-Dec ’10) with an avg gain of 16%.
MARKET STRATEGY: 2010 YE Target 1300.
We believe the S&P 500 can reach1300 by YE10, based on a 14.5X P/E on our 2011E EPS of $90. Visibility likely strongin 1H given positive payrolls, home price trough, 2010 profit outlooks. We remain OW
We are also upgrading
to Neutral from Underweight, asrisk/reward is favorable given greater visibility on Healthcare reform.
WHERE DO WE DIFFER FROM CONSENSUS?
Investors remain too pessimisticregarding the durability and trajectory of 2010 US growth as well as valuation upside.Specifically, there are 6 areas where we differ from consensus:1. The risk for the US economic recovery is to the upside, with unemploymentfalling in ’10E potentially faster than the 50bp projected by J.P. Morgan;2. The 2.6mm-per-annum increase in the adult population (>age 19) creates 13.1mmnew consumers thru ’14E (Figure 15)- not enough homes nor autos today;3. US home prices bottom in 1Q10 (per JPM ABS research) and Commercial RealEstate prices in 2010 (per JPM CMBS), which lead to improved credit availability;4.
Top-line y/y gains in 1Q10.
S&P 500 cos defend margins in as volumes despitelack of pricing power - only 22% of cost savings were achieved by employmentcuts, thus, rehiring does not nullify margin expansion.
We see S&P 500’10E/’11E profits of $80/$90;
5. Valuations reasonable, as S&P 500 LTM EPS as % peak is 68%, in line withIndex at 70% of its peak value;6. Supply and demand analysis by Srini Ramaswamy, JPM Fixed Income strategist,shows sufficient demand for Treasuries in 2010, mitigating risk of rising rates.