Tuesday, November 24, 2015

Bank of America: S&P 500 —> 3,500 (BAC, DIA, SPX, SPY, QQQ, TLT, IWM)

Savita Subramanian

Bank of America Merrill Lynch has a big long-term call for the S&P 500: 3,500 by 2025. 

This may seem like a big number, but with this call BAML is calling for a roughly 67% increase in the benchmark stock index over the next ten years while the last six years have seen the index nearly triple. 

Now, many would note that the 2009 low was likely a “generational bottom,” or a point at which the market got far less expensive than any reasonable valuation warranted. 

And so going forward, BAML is basically calling for less-than-stellar stock market returns that will, however, likely be better than the alternatives.  

Here’s BAML’s Savita Subramanian: 

Based on current valuations, a regression analysis suggests compounded annual returns of 8% over the next 10 years with a 90% confidence interval of 4-12%. While this is below the average returns of 10% over the last 50 years, asset allocation is a zero-sum game. Against a backdrop of slow growth and shrinking liquidity, 8% is compelling in our view. With a 2% dividend yield, we think the S&P 500 will reach 3,500 over the next 10 years, implying annual price returns of 6% per year.

In its year-ahead outlook, BAML calls for the benchmark S&P 500 to climb to 2,200 by the end of 2016, a roughly 5% increase from current levels.

This call is still more aggressive than BAML’s in-house “fair value” model of the market, which implies stocks will rise only 1% over the coming year. 

And as for when the current bull market could get full exhausted, Subramanian expects there’s going to be a major blow-off top before we can call for a regime change in the stock market. 

“As we move further into this bull market, the dilemma many investors face is whether or not to maintain equity exposure,” Subramanian writes.

Adding:

Performance of equity markets in the last few years preceding market peaks generally has been strong, with the minimum equity market returns achieved in the final two years of a bull market sitting at 30%, with median returns of 45%. Returns preceding the 1937 and 1987 peaks were particularly strong: 129% and 93%, respectively. And returns in the last two years of a bull market cycle have generally contributed over 40% of the total returns of the cycle. The lowest returns achieved in the last 12 months of a bull market were also a still-impressive 11%. These robust returns make the opportunity cost of selling too early potentially quite painful.

And so the core lesson: stay long. 

SEE ALSO: Goldman Sachs thinks stocks are going nowhere in 2016

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