Despite healthy gains and being in a state of bull run for more than 20 months, I believe that the uptrend is likely to last for a longer time. There are a number of reasons to believe that the bull run will last for a longer time, including two consecutive years of double-digit earnings growth for the S&P 500, robust tech performance, and modest economic growth. Meanwhile, besides tail events, the risk factor appears limited. Therefore, I'm upgrading my buy rating on SPDR® Portfolio S&P 500® ETF (NYSEARCA:SPLG) to a buy from hold.
Prospects for a Long Lasting Bull Run are High
The S&P 500 rallied nearly 45% in the current bull run on the back of the tech-driven gains along with a positive contribution from other sectors. The index is currently trading around a record 5,500 points, with market pundits having a mixed view about the outlook. Some are expecting the S&P 500 to end the year around 6,000 points while others anticipate a correction. For instance, Piper Sandler's chief market technician anticipates a 10% correction this summer from the current level. In my view, the case for the extension of the bull run is strong with a limited downside risk. This is because of the robust fundamentals, including double-digit earnings growth power and economic stabilization.
Earnings Growth is the Key Catalyst
Earnings growth has always been the biggest driver of investor confidence in the broader market index. After sluggish earnings growth in 2023, FactSet data shows that the S&P 500 earnings are expected to increase at a double-digit rate for the two consecutive years. In 2024 and 2025, earnings are forecasted to increase around 11% and 14%, respectively. Last time, the index experienced two consecutive years of double-digit earnings growth in 2017 and 2018. Historical stock price trends reflect that stock prices rally significantly whenever earnings increase at a solid pace. For instance, the S&P 500 rallied nearly 19% in fiscal 2017 when earnings grew by around 11% while the index soared 43% between 2017 and 2019. Similarly, the S&P 500 surged significantly in 2021 due to earnings growth of around 47%.
Besides strengthening investor confidence in stocks, earnings growth always has multiple effects on corporations and shareholder returns. For instance, higher earnings growth enhances corporations' cash generation potential, enabling them to fund new growth opportunities along with returning healthy cash to shareholders. For instance, Meta Platforms, Inc. (META), which saw earnings growth of nearly 200% in 2023 and a 117% increase in the first quarter, repurchased a massive $14.6 billion of its Class A common stock in the latest quarter. The earnings performance in the past quarters enabled it to pile billions of dollars in cash reserves. In the latest quarter, the company produced $12.5 billion in free cash flow and was sitting on $58 billion in cash and market securities.
Microsoft Corporation (MSFT), Alphabet Inc. (GOOG) (GOOGL), Apple Inc. (AAPL), Amazon.com, Inc. (AMZN), and NVIDIA Corporation (NVDA) have also been generating substantial free cash flows. For example, NVIDIA ended the March quarter with $31 billion in cash, cash equivalent and market securities compared to $25 billion in the previous quarter. The robust growth in cash position is backed by its earning growth power and a significant increase in free cash flow. NVIDIA's March quarter non-GAAP earnings per share grew 19% sequentially and 461% year over year. Consequently, the company produced a whopping $14.9 billion in free cash flow compared to $11.2 billion in the previous quarter and $2.6 billion in the year ago period. Meanwhile, the company's long-term and short-term debt stood around $8.5 and $1.2 billion, respectively.
Furthermore, another important factor is that the S&P 500 earnings growth in 2024 and 2025 is expected to be driven by high growth sectors, such as communications, information technology, and consumer cyclicals. Solid performance from these sectors is crucial for the bull run because these sectors collectively represent almost half of the S&P 500 weight and performed exceptionally so far in the current bull run. Data shows that mega caps are once again expected to lead the earnings growth trend for the S&P 500 in 2024 and 2025. For example, NVIDIA is expected to generate 100% earnings growth in 2024 while other mega-cap tech companies including Alphabet, Meta, Amazon, and Microsoft are expected to produce double-digit earnings growth. Earning growth of other key sectors, such as financials, healthcare, utilities, and industrials, is also expected to remain strong.
Fed's Soft Landing and Economic Stabilization
Although the Fed has delayed its rate cuts and now anticipates only 1 cut later in 2024, I believe the market has adapted to high rates. This is clearly reflected in the robust performance of the financial sector. For instance, after posting record profits in 2023, banks and financial services companies witnessed significant growth in their profits and a decline in provision for credit losses in the first quarter of 2024. Apparently, there is no risk of a financial crisis. The bank's strategy of increasing interest on deposits helped them improve deposits in the past months.
Nevertheless, the market is now closer to experiencing a first rate cut in the second half of 2024 and multiple cuts in 2025, which I believe will boost investor confidence and business activities. In addition, the prospects for a soft landing are also high because the Fed so far appears successful in slashing inflation without sending the economy into a recession. Overall, the business conditions are likely to remain strong, with a potential GDP growth rate of 2.2% for the second quarter and around 2% for the full year.
Why Is SPLG the Right Investment Vehicle?
There are a number of investment options to track the large-cap US equity market. SPDR® S&P 500® ETF Trust (SPY) and Vanguard S&P 500 ETF (VOO) are among the most popular options given their massive assets under management of $1.4 trillion and $550 billion, respectively. However, I believe SPLG could also be a solid ETF to track the S&P 500 bull run. Although their portfolio structure, share price performance, and dividend returns are the same, SPLG appears attractive due to its low expense ratio and cheap share price compared to its peers. SPLG's expense ratio is 0.02% compared to SPY's 0.09% and VOO's 0.03%.
Furthermore, SPLG appears like a cheap way of tracking the S&P 500. Its share price is currently around $64 compared to SPY's $540 per share and VOO's $500 per share. Cheap share price matters a lot because it enables investors to buy a large number of shares. For instance, with a capital of $100K, investors can buy 1562 shares of SPLG. Meanwhile, with the same amount, investors can buy only 200 shares of VOO and 184 shares of SPY. Even if with the same amount of total funds investors obtain an identical ownership in the S&P 500 based on percentage, the number of shares matters for various reasons, including dividends and trading flexibility. As companies and funds offer dividends on a per share basis, the numbers of shares determine the amount of the total dividend return. A large number of shares also increases trading flexibility. For instance, with a large number of shares, investors can be in a better position to sell some percentage of shares to capitalize on the recent surge or reduce the impact potential downside while holding their exposure to the index.
Risk Factors to Consider
The biggest risk factor in my view is lofty valuations. The S&P 500 is currently trading above its 10-year average based on the trailing and forward earnings. On the positive side, the ratio has been cooling due to a solid earnings growth outlook. Currently, the S&P 500 is trading around 22.66 times forward earnings compared to 23.41x in the last quarter and 26.26x in the year ago period. As earnings for 2025 are likely to increase nearly 14% year-over-year, it appears that earnings will continue to offer support to the bull run. Moreover, the Fed's policy of holding rates at peak levels for a longer time could also negatively impact stock markets.
In Conclusion
Despite one of the fastest rate hike policies, the US stock market performed exceptionally in the last year and year to date because of robust tech stocks' performance. The trend is likely to continue in the second half and over the long term because of the robust demand for tech-related products and artificial intelligence. Moreover, improving financial forecasts of non-tech stocks will also improve the breadth of the bull run. Overall, initiating, holding, or increasing an exposure in the S&P 500 index through ETFs like SPLG could be a prudent strategy. Its cheap share price, high liquidity, and low expense ratio make it a solid investment vehicle to track the S&P 500.