By George Leong, B.Comm. Published : January 13, 2022
Mega-cap Technology Stocks to Drive Upward Moves
The bulls were in full command of the stock market in 2021, with the S&P 500 advancing an impressive 26.9%. That was the S&P 500’s third consecutive year of gains and its best performance since gaining 28.9% in 2019.
Between 2010 and now, the S&P 500 recorded its best gains in 2019 and 2021. Even 2020 was good, with a gain of 16.3%.
The strong gains in the S&P 500 were driven by the increase in the allocation of technology stocks, which account for approximately 30% of the index.
The S&P 500 was powered by the incredible moves of the mega-cap technology stocks, including Alphabet Inc (NASDAQ: GOOG), Amazon.com, Inc. (NASDAQ: AMZN), Apple Inc (NASDAQ: AAPL), Meta Platforms Inc (NASDAQ: FB), Microsoft Corporation (NASDAQ: MSFT), Netflix Inc (NASDAQ: NFLX), and Tesla Inc (NASDAQ: TSLA).
These stocks helped the S&P 500 set 71 record highs in 2021, but the heavy technology exposure also makes the index vulnerable to volatility.
Chart courtesy of StockCharts.com
The beginning of 2022 has seen technology stocks sell-off. This isn’t a big deal, given their recent gains, and I expect another up year for the S&P 500 unless the macroeconomic risks intensify.
Analysts’ targets for the S&P 500 largely call for a rise, but their estimates of the gains are wide-ranging. The predictions come with numerous assumptions that make things difficult.
For instance, my estimate for the S&P 500 in 2021 was initially 4,000 and I increased it to 4,180. Even so, my target fell 12.3% short of where the S&P 500 ended up.
In 2022, there’s optimism about the reopening economy, despite the continued concerns about COVID-19 variants.
In a poll of analysts by FactSet, the median earnings-per-share (EPS) estimate for the S&P 500 in 2022 sits at $222.32. (Source: “Industry Analysts Expect S&P 500 to Report Record-High EPS in 2022,” FactSet, December 3, 2021.)
This represents the highest-ever EPS estimate for the S&P 500. If it pans out, the EPS will jump above the S&P 500’s pre-pandemic level. The positive EPS estimate discounts a strong recovery.
The difficulty is selecting the right multiple for the S&P 500. My assigned multiple for 2021 was too conservative, which resulted in my target falling short of the actual result.
Setting a Target for the S&P 500
Take a look at the following 20-year table showing the price/earnings multiple for the S&P 500.
The number has varied from a low of 14.9 in January 2012 to a high of 70.9 in January 2009, following the Great Recession that was triggered by the subprime mortgage crisis. (Source: “S&P 500 PE Ratio by Year,” Multpl.com, last accessed January 7, 2022.)
The multiple for the S&P 500 was 36.0 in January 2021 after the COVID-19 pandemic ravished the economy.
|Date||S&P 500 Multiple|
|January 7, 2022||29.5 (estimate)|
|January 1, 2021||36.0|
|January 1, 2020||24.9|
|January 1, 2019||19.6|
|January 1, 2018||25.0|
|January 1, 2017||23.6|
|January 1, 2016||22.2|
|January 1, 2015||20.0|
|January 1, 2014||18.2|
|January 1, 2013||17.0|
|January 1, 2012||14.9|
|January 1, 2011||16.3|
|January 1, 2010||20.7|
|January 1, 2009||70.9|
|January 1, 2008||21.5|
|January 1, 2007||17.4|
|January 1, 2006||18.1|
|January 1, 2005||20.0|
|January 1, 2004||22.7|
|January 1, 2003||31.4|
|January 1, 2002||46.2|
|January 1, 2001||27.6|
|January 1, 2000||29.0|
Multiples tend to be higher during times of economic weakness or market shocks followed by moderation after the initial burst.
The average S&P 500 multiple since the technology market meltdown in 2000 is about 25.7. The number is much higher than the historical average but more in tune with the recent valuations.
Since 2020, there were only seven years when the S&P 500 multiple was higher than average. Since the 2008 recession, there have been 11 years with a lower-than-average multiple.
In the table below, I assigned an expected value for the S&P 500 based on the EPS estimate and multiple.
Applying the average multiple in the above table, I arrived at 5,723 for the S&P 500, or a 23.7% gain. While that’s possible, I doubt it will be that high.
Assigning a reasonable multiple of 20 times, we get a value of 4,446, or 3.9% below the current level. This value could be used as a downside support level, followed by the 50-day and 200-day moving averages at 4,661 and 4,387, respectively.
If I take the average multiple between 2016 and prior to the pandemic in 2020, the multiple is 23. Applying this, I arrive at a target of about 5,113, representing a gain of 10.6%.
This estimate might look somewhat conservative, considering the moves from 2019 through 2021, but, given the macroeconomic risk, I’ll start with this target and revise it based on the ongoing fundamentals and macroeconomic conditions.