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| Photo by Gorartser |
By John Burson
Despite the
looming possibility of another Fed rate high and a consumer slowdown, Bank of
America's head of U.S. equity and quantitative strategy, Savita Subramanian, is
beaming with optimism in the company of moaning bears.
This optimism
is why Bank of America raised its year-end S&P 500 target from 4,300 to
4,600, reflecting a 3% upside from current S&P 500 levels. In an article in
Yahoo
Finance, reporter Josh Schafer quoted Subramanian as saying, "Recession
averted, but a fresh wave of bear narrative around equities have emerged. The
net message of our five target indicators is bullish, yielding a new 2023
year-end target of 4,600."
It's
apparent that Subramanian and the rest of the BofA team no longer detect a
recession in the U.S. economy. In fact, they believe the markets are already in
a "recovery phase." According to their conclusions, the profit declines
in the second quarter were rock bottom.
Subramanian predicts
that the equal-weighted S&P 500 (which disregards the size of the companies)
will outperform the standard S&P 500 index. He and his team also concluded
that the possibilities of deglobalization forces would impact mega-cap tech
stocks more forcefully than midcap stocks.
Is there any
historical data that backs up this conclusion? To answer this question, B of A
used data dating back to 1999. The historical data shows that the average
S&P 500 year-end target at the end of August usually projects 5% gains for
the rest of the calendar year.
However, in
the years when strategists see an end-of-August decline in the benchmark index,
the S&P 500 performance exceeds the benchmark. Moreover, the S&P 500
rises every time the consensus forecast for the index drops during the last
four months of the year. This means stocks have a good chance of running higher
if the consensus forecast for the S&P 500 drops 2% through the end of this
year.
BofA's Emphasis on the Impacts to the Equal Weighted S&P 500 and a Standard S&P 500
Do you know
the difference between an equal-weight S&P 500 and a Standard S&P 500? Stock
strategists often use these to dissect economic changes' impact on stocks. Here
is a more detailed breakdown.
An
equal-weighted S&P 500 and a standard (market-cap weighted) S&P 500 are
two different ways of constructing and representing the performance of the
S&P 500 index, a commonly followed benchmark for the U.S. stock market. The
critical difference is how the individual stocks within the index are weighted.
Standard S&P 500 (Market-Cap Weighted)
In the
standard S&P 500, the component stocks are weighted based to their market
capitalization, which is the total market value (TMV) of a company's
outstanding shares of stock. Essentially, larger companies with higher market
capitalizations have a more significant influence on the index's performance.
This means
that companies like Apple, Microsoft, and Amazon, which have some of the
largest market capitalizations in the S&P 500, will significantly impact
the index's movements more significantly than smaller companies.
Equal-Weighted S&P 500
- In an equal-weighted S&P 500, all the
component stocks are assigned the same weight, regardless of their market
capitalization. This means that each stock in the index has an equal percentage
representation.
- For example, if the index consists of 500 stocks, each stock would initially have a weighting of 1/500th or 0.2% of the total index value. This approach gives smaller companies an equal say in the index's performance compared to larger companies.
Equal Weight vs Standard S&P 500
Diversification
An equal-weighted S&P 500 tends to be more diversified because it doesn't overly favor the larger companies. Market-cap-weighted indexes can be top-heavy, with a few large companies dominating the index's performance.
Performance
The performance of the two indices can differ significantly over time. Equal-weighted indexes can outperform market-cap-weighted indexes when smaller companies are doing well, but they can also underperform when larger companies dominate the market.
Rebalancing
Equal-weighted indices require periodic rebalancing to maintain the equal-weighted structure. This means selling some of the outperforming stocks and buying more underperforming ones to return them to equal weights. Market-cap-weighted indexes don't require this kind of rebalancing.
Risk
Equal-weighted indexes may have different risk profiles than market-cap-weighted indexes because they are not biased toward larger, more established companies.
Final Notes
Investors
and fund managers choose these approaches based on their investment objectives,
risk tolerance, and market outlook. An equal-weighted index can be a way to
gain exposure to smaller companies and potentially benefit from their growth.
In contrast, a market-cap-weighted index provides a more accurate
representation of the overall market's performance. What do you think about Band of America's optimistic outlook, particularly given the current state of commercial real estate debt? More on that next time.
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