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History Shows High Equity Risk Premiums = Strong
Equity Gains Despite Weak GDP; 30 Ideas
Portfolio Strategy
Thomas J Lee, CFA AC
(1-212) 622-6505
thomas.lee@jpmorgan.com
Daniel M McElligott
(1-212) 622-5598
daniel.m.mcelligott@jpmorgan.com
Katherine C Khor
(1-212) 622-0934
katherine.khor@jpmorgan.com
J.P. Morgan Securities LLC
See page 24 for analyst certification and important disclosures.
J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that
the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single
factor in making their investment decision.
Equity markets have gained steadily in 2012, posting YTD gains of 4.5%, and as we
noted last week, the strength in markets early in the year is a good sign for the year
(see “4Q11 Preview…” dated 1/12/12). An issue that has been raised frequently is the
fact that even if Europe does not worsen in 2012, the U.S. economic growth outlook is
mediocre at 2% and, in that environment, how can equities outperform credit? In a
nutshell, history strongly argues that given the 60-year high in equity risk premiums,
equity market returns are a lot less sensitive to GDP growth.
We have looked at GDP and equity returns since 1908 (using 7-yr rolling cycles)
and focused specifically on instances when GDP growth was below 3%. Of those
periods of GDP <3%, equity returns averaged 8.4% (or nearly 2.5X GDP growth)
when equity risk premiums were high (stocks cheap, see Figure 4). 100% of the
time, equity returns were above the LT average of 5.7% (see Figure 4).
In other words, when equity risk premiums have been high, equity returns were not
only higher (8.4% CAGR) but not sensitive to GDP growth (outperformed mediocre
GDP). And as the regression shows, one reason for this is the “intercept” of the base
return is 0.5% for equities when ERP is high (see Figure 5).
2012 is notable, not only for a positive start in US equities but also for the fact
that it is global and synchronized risk-on with higher volumes. For instance, as
shown in Figure 6, this is the first time since 2007 that US, Europe, and China have
all risen YTD early on in the year. In 2011, for instance, China was down at this
point YTD.
As for Sectors, 2012 is certainly very different than 2011 so far – Cyclicals and
Financials are leading. For instance, Cyclicals are leading YTD, outperforming by
280bp (Figure 7) whereas they underperformed by 30bp early in 2011. Similarly,
Financials are outperforming by 360bp YTD, whereas they underperformed in 2011
and therefore are performing much more like 2010. By the way, Financials remains
one of our favorite sectors in 2012.
Finally, high FCF and low P/E and low P/B are leading, very similar to 2010
and a contrast with 2011. We are seeing style leadership very similar to 2010’s (see
Figure 8-Figure 9) with higher FCF yield outperforming by 410bp, low P/B
outperforming by 240bp, and low P/E outperforming by 410bp. Basically, this feels
a lot more like a traditional bull market.
BOTTOM LINE: 30 IDEAS. In summary, we believe that Market Strategy favors a
more Cyclical/Lower-quality positioning (Figure 8). Incremental incoming economic
data remain supportive, with weekly claims now at 352k, the lowest since April 2008.
Moreover, we believe evidence is accumulating that supports a bottom in US housing.
We have developed a screen based on the following criteria: (i) Stock in at least 2 of
the 3 following styles (Low P/E (<10.6x) or Low P/B (<1.44x) or High FCF yield
(>7.4%)); (ii) Cyclical or Near-Cyclical sector; (iii) Rated OW; (iv) 15% upside to
JPM target price; and (v) Mkt Cap > $1b. The tickers are UAL, KGC, DAL, BHI,
ELT, C, NXY.TO, BAC, HES, AER, SYMC, NFX, ACI, MT, TRW, GM, HIG,
FCX, CA, ALL, ITRI, ACAS, MS, MGA, WFC, APA, RKT, CLF, DVN, and
SPLS.
2012-01-19_J.P摩根证券亚洲_USEquityStrategyFLASH.pdf
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