The S&P 500 (^GSPC) could deliver another year of double-digit returns in 2020, according to Fundstrat co-founder Tom Lee.
These gains would coincide with a return to growth in the industrial cycle, as captured by the sharp upturn in the Institute of Supply Management’s most recent manufacturing purchasing managers’ index, Lee told Yahoo Finance’s YFi PM on Tuesday.
In January, the ISM manufacturing PMI rose to 50.9 in January, representing the highest level in six months. It was also the first time since July that the print rose above the neutral level of 50, to indicate expansion in the manufacturing sector following five consecutive months of contraction.
And beneath the headline PMI, the ISM New Exports Orders index climbed by six percentage points to 53.3 in January from December’s 47.3, marking the highest jump since October and highest level since September 2018. T
“It’s a massive turn,” Lee said. “It’s really interesting because the five other times it’s happened, it’s been accompanied by a big recovery in earnings.”
The improvement in the January ISM exports figure demonstrated that an easing of trade tensions — with the U.S. and China having signed a phase one trade agreement midway through the month — had led to an upturn in business activity, Lee said. And that’s likely to translate to a rise in corporate profitability.
“We’ve had a big inventory drawdown, a lot of growth slowed because of the trade war,” he added. “Now that it’s all turning, we could see 15% S&P earnings growth this year, and that would be on top of possibly P/Es (price-to-earnings multiples) expanding. So you know, maybe we’re up 20% this year.”
Since 1999, a move back above 50 in the ISM exports index has coincided with an average of 18% earnings growth for the S&P 500 companies, according to Lee’s research. Each one-point increase in the ISM exports index adds 0.58% to S&P 500 earnings per share (EPS) growth, he said, based on the five prior ISM export index recoveries of 1999, 2002, 2009, 2013 and 2016.
In 2019, the S&P 500 had posted a near 29% gain, which came as valuations surged and multiples expanded well beyond their historical averages. In other words, stocks were getting more expensive in absence of a notable acceleration in earnings growth, which is typically the fundamental driver of share-price appreciation.
Most analysts on Wall Street are predicting a rebound in earnings growth for 2020, with consensus analysts estimating around 10% EPS growth for the year. But as Lee puts it, given the historical precedence of EPS growth following a manufacturing sector recovery, those consensus expectations may still be too conservative.
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Emily McCormick is a reporter for Yahoo Finance. Follow her on Twitter: @emily_mcck
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