Where We Were
2025 was another great year for equities, as well as fixed income – despite a cloud of despair present in so many minds around the country. President Trump rode a strong wave of economic hope and goodwill early in the year, mostly focused on dismantling selective government overreach and lowering taxes. That goodwill was quickly dashed against the rocks of see-saw tariff and trade policy changes, retaliation by quite important (and powerful) trade partners, as well as an unwise attack on the Federal Reserve and the members of the FOMC. As a result, confidence as well as economic and earnings growth projections tapered off between the end of Q1 and into Q2. That both coincided with, and likely caused, an overdue equity market correction between March and April.
Market conditions and confidence rose again after Q2 earnings results started to come in, as they did not reflect the doom-and-gloom forecasts of many an economist and talking head. Corporate earnings rode a tailwind of stronger-than-expected incomes, spending and net worth, as well as expanding margins and cash flow led by growth companies. Strong earnings results and forecasts continued throughout the rest of the year. Equity returns were strong across the board and led by foreign emerging markets (+34%), foreign developed markets (+31%), and US large cap growth (again, +22%). The S&P 500 rose +18%. Fixed income returns were extremely even across the board and generally well above their long-term averages, buoyed by tapering inflation and overall US economic growth projections (after inflation) of a bit less than 2%. The Aggregate Bond index rose 7%, while 7-10 year Treasurys, investment-grade corporates, mortgage-backed, and high yield bonds all returned 8+% on the year, proving once again that the Chicken Littles (“60/40 is dead”) should remain unheeded.
Where We Are
Source: Factset
Rangebound and 2% from high. The S&P 500 index was off about -1% in January, as region, sector and style rotation continued. At month end, the index was off its high of 7002 by a couple percent, but also rangebound between 6700 and 7000 for the past three months. Within the S&P 500, Growth was -3%, while Value gained 5%. Emerging markets lead equity benchmarks YTD, up 14%.
The US Aggregate Bond index is up 1.9% YTD. The 10-year T-Note yield is at 3.96%.
Q4 Results. With 96% of S&P 500 constituents reporting, 74% beat revenue estimates, with the average upside surprise being 2%. 73% of companies beat EPS estimates, with the average beat coming in at 7%. Actual Q4 EPS growth is 15% vs. the 7% expected at the beginning of Q4.
S&P 500 earnings expectations. For 2025, final EPS is expected at $271/share, up 13% vs. 2024. The 2026 estimate is $311 (+14%), 2027 is $360, (+16%), and 2028 is $410 (+14%). P/E ratios for ’26-28 are 22x, 19x and 17x. The P/E-to-Growth (PEG) ratios are 1.6, 1.2 and 1.2. The average EPS growth rate over the past 20 years is 7%; the average trailing and forward P/E ratios are 19x and 16x, while the 20-year average trailing PEG ratio is 2.7x. The consensus price target for the SPX is 8318 vs. 8158 a month ago, and 8018 sixty days ago, for an implied return of +21%. If achieved this calendar year, the implied total return for the S&P 500 in 2026 would be 20%.
Where We're Headed
Rotation continues. The US continues to lag compared to Developed and Emerging foreign equity indexes, as does Growth vs. Value, and Large Cap vs. Mid Cap and Small Cap. Meanwhile, all major bond benchmarks are up 2% YTD, following 7-8% returns for taxable credit last year. Just remember folks, if you benchmark your equity portfolios against the S&P 500, it has 0% Small Cap exposure (85/15 LC/MC). And if you benchmark against global benchmarks like the MSCI All Country World Index (ACWI), its exposure to Small Cap is also 0%. Likewise, the ACWI is 85% large cap, 15% mid cap. That’s one of the characteristics of market-cap weightings.
Source: Factset
What's a Better Value?
Source: Factset, IAS
Consumer Staples’ forward P/E is 20x, while Info Tech is at 30x. So I guess everyone should buy Staples, since that sector is a better value? What rarely (if ever) makes it into the conversation is not the absolute valuation of companies or sectors, but relative valuation, which is how much investors have to pay in P/E terms for each percentage point of growth. That is why we use the P/E-to-growth (PEG) ratio, which tells us just that. As seen above, S&P 500 Growth (Large cap) leads the average EPS growth race for 2025-2027 benchmarks at 32%.
S&P 500 Value is in last place at 7%. But the PEGs? 1.1x for Growth, 1.3x for Value. In other words, one has to pay $1.30 for each $1 of EPS growth for Value, but only $1.10 for Growth. What’s the better value?
Whither long term index exposure of Growth vs. Value? Remember that neither rotation nor absolute P/Es have much impact on long-term performance. The number one factor which drives equity performance over time is the extent to which revenue and earnings grow for individual and constituent companies. Since benchmarks are market-cap weighted, companies which grow in value faster than others over time outweigh slower growers, leading to long term shifts in market composition. For example, Info Tech was 15% of the S&P 500 index in 2006; 20 years later, it is 35% (2025). What about Consumer Staples? 8% 20 years ago, 6% today.
And wherefore?
As shown above, the Tech sector has outperformed the Consumer Staples sector by more than 1000% over the past 20 years. Its total return CAGR is 15% vs. 10%. But what about growth in earnings, by which faster growth begets higher valuations (P/E ratios)? Info Tech’s total EPS growth over the past 20 years has been about 620%, or 10% per year, compared to 245%, or 6% per year for the Consumer Staples sector, and 315% and 7% for the entire S&P 500. Meanwhile, Info Tech’s weight in the index is up more than 100%, while Staples has been reduced by -25%.
When the current rotation into Value and etc. is done, don’t be surprised to see Growth and Tech leading the way again. US Large Cap Growth has led equity benchmarks for 14 of the past 20 years, mostly as a function of strong revenue and earnings growth, and the valuations that accompany success compared to peers. The chart above forecasts the relative index weight changes if Info Tech averages 12% EPS growth over the coming 20 years, compared to 6% for the rest of the sectors (this is what the past 20 years has shown). Info Tech would comprise 61% of the S&P 500 index weight if this occurs. Factset currently estimates the long term EPS growth rate of S&P 500 Growth at 16% per year, vs. 10% for Value, 14% for the S&P 500 itself, and 9% for Developed Foreign (EAFE), as well as 17% for Emerging Markets. Bottom line? Don’t be fooled that this current rotation is like the rotations of yesteryear when both Info Tech and Energy were 15% of the S&P 500 index (2005).
Over time, the market, its index funds, and your benchmarks…reward growth.