Global Equities
Stock market outlook: 3 themes for a broadening market
Chris Buchbinder
Equity Portfolio Manager
Martin Jacobs
Equity Portfolio Manager
Gerald Du Manoir
Equity Portfolio Manager

After a strong rally in the first half of the year, stocks appear to be headed into the second half with a powerful tailwind and an even brighter outlook. While the risks of a stumble remain ever present, healthy consumer spending and robust corporate earnings underpin an optimistic view at the midpoint of 2024.

In the face of lingering inflation, the U.S. economy continues to flex its muscles. Labor markets and company fundamentals remain healthy. Wall Street analysts expect earnings for companies in the S&P 500 Index to grow more than 10% this year, with further acceleration in 2025.

Outside the U.S., earnings growth in Europe is anticipated to be substantially lower, albeit still in positive territory. In emerging markets, economists are calling for a sharp rebound in profits after a decline in 2023. Even in China, where a slow economy has cast a long shadow, there are early signs of a turnaround in some industries.

Accelerating earnings growth can boost stock returns

The image shows four sets of bars comparing annual earnings growth for 2023 and estimated earnings growth for 2024 and 2025 for the U.S. (Standard & Poor’s 500 Index), Europe (MSCI Europe Index), Japan (MSCI Japan Index) and emerging markets (MSCI Emerging Markets Index) stocks. The earnings growth and estimates are as follows: For the U.S., 0.5% growth in 2023, 11.1% in 2024 and 14.0% in 2025; for Europe, 0.7% in 2023, 5.0% in 2024; and 10.1% in 2025; for Japan, 8.5% in 2023, 11.1% in 2024 and 8.4% in 2025; and for emerging markets, negative 13.7% in 2023, 18.1% in 2024 and 14.5% in 2025. Below each set of bars is current and 10-year-average price-to-earnings ratios as of May 31, 2024, for each region. For the U.S., current P/E ratio was 20.3 times earnings and 10-year average P/E ratio was 17.8 times earnings; for Europe, current P/E ratio was 13.6 times earnings and 10-year average was 14.3 times earnings; for Japan, current P.E ratio was 15.3 times earnings and 10-year average was 14.2 times; and for emerging markets, current P/E ratio was 12.1 times earnings and the 10-year average was 12.2 times earnings.

Sources: Capital Group, FactSet, MSCI, Standard & Poor’s. Estimated annual earnings growth is represented by the mean consensus earnings per share estimates for the years ending December 2024 and December 2025, respectively, across the S&P 500 Index (U.S.), MSCI Europe Index (Europe), MSCI Japan Index (Japan) and MSCI Emerging Markets Index (emerging markets). Estimates are as of May 31, 2024. The forward price-to-earnings ratio (P/E) is computed by dividing the price of a company’s stock by the company’s estimated annual earnings per share over the next 12 months.

We expect solid economic growth for the remainder of this year and through 2025. This likely leads to an environment of expanding earnings growth across industries and sectors. This, in turn, should lead to a broadening market rally as profit growth is a primary driver of returns.

What’s more, equity market valuations don’t appear to be particularly stretched. Price-to-earnings ratios for most markets were near or modestly above their 10-year averages as of April 30, 2024.

To be sure, there are risks for markets and investors. Inflation is falling but remains uncomfortably high. The timing of any interest rate cuts by the U.S. Federal Reserve is unclear. Tensions between the U.S. and China have heightened, and war continues in Ukraine and the Middle East. Market declines are inevitable, but over time markets have trended higher, attaining multiple fresh highs in a given cycle. 

That’s why we focus on identifying powerful forces for growth — concepts like innovation, productivity and the reshoring of supply chains. We have always had downturns, but they haven’t changed the historical long-term trajectory. Here are three key themes we are focused on.

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1. AI opportunity is stacking up in tech and beyond

With its open-ended potential to transform industries and how people do their work, artificial intelligence represents compelling investment opportunities. This has led to great enthusiasm for the stocks of tech giants pioneering AI.

For investors, key to success will be identifying the potential winners. This starts with understanding the AI “stack” — four layers of technology that enable AI to operate. Companies are jockeying for position at each layer: semiconductors, infrastructure, applications and the AI models themselves.

Alphabet, Meta and Microsoft have invested tens of billions of dollars to dominate multiple layers of the stack. This includes aggressive investment to develop models, build out cloud infrastructure and develop advanced chips. Although these companies are spending money on their own processors, leading chipmakers like NVIDIA, Broadcom and Micron currently maintain their market share dominance.

Tech giants are investing heavily in data centers and other capital projects

Tech giants are investing heavily in data centers and other capital projects

Sources: Capital Group, FactSet, Standard & Poor’s. Big Tech’s proportion of total capex represents total capital expenditures across Alphabet, Amazon, Meta and Microsoft as a percentage of total capital expenditures across the S&P 500 Index. Data as of May 30, 2024.

While we believe AI is exciting and will have a major impact on how we work and live, it is a product cycle and will be subject to the same laws of economics and investor emotions that we see in other product cycles. We saw similar patterns in the late 1990s with the expansion and explosion of the tech and telecom bubble. While we do not believe we are in a bubble today, there is a good chance we will see a pullback for some of these stocks.

We are studying each layer of the stack to determine which companies we believe have the best chance of being winners. At certain layers this is relatively straightforward because few companies have the technical and financial wherewithal to compete successfully.

The AI opportunity reaches far beyond tech companies. The need for a massive build-out of data centers is driving demand for Caterpillar’s construction and engineering equipment, for example. Because AI data centers require vast amounts of electricity, the build-out will also drive demand for a range of energy sources. Because several tech giants have committed to net zero carbon emissions, the use of nuclear power could grow. In June 2023, for example, Microsoft struck a deal with Constellation Energy to supply one of its data centers with nuclear power.

2. There is ample opportunity outside the U.S.

The Magnificent Seven stocks — Microsoft, Apple, Alphabet, Amazon, NVIDIA, Meta and Tesla — closely associated with AI and other tech trends aren’t the only place to find solid investment opportunities. Outside the U.S., there’s a growing list of rivals with leading businesses.

For example, the seven leading contributors in 2023 within the MSCI EAFE Index, a broad measure of developed markets in Europe and Asia, have outpaced their U.S.-based cohort since the beginning of 2022, rising more than 40%. The non-U.S. companies represent a wide range of industries, including health care company Novo Nordisk, computer chip equipment maker ASML, software titan SAP and banking giant HSBC, among others.

Seven top non-U.S. companies have outpaced the Magnificent Seven since 2022

The line graph compares the cumulative return of the Magnificent Seven stocks with the seven largest contributors in the MSCI EAFE Index, a broad measure of developed non-U.S. markets, from January 1, 2022, through March 31, 2024. The Magnificent Seven U.S. stocks are Microsoft, Apple, NVIDIA, Amazon, Meta, Tesla and Alphabet. The Magnificent Seven non-U.S. stocks are Novo Nordisk, ASML, SAP, Toyota, HSBC, Siemens and UBS. Cumulative returns for both groups are indexed to 100 as of January 1, 2022. The Magnificent Seven non-U.S. companies ended with an indexed value of 163.4, outpacing the U.S. Magnificent Seven, with an ending value of 129.3.

Sources: Capital Group, FactSet, Morningstar. Magnificent Seven stocks were the top seven contributors to returns for 2023 in the S&P 500 Index. The Magnificent Seven non-U.S. are the top seven contributors to returns for 2023 in the MSCI EAFE Index. Cumulative returns are indexed to 100 on January 1, 2022, and shown through March 31, 2024, and are calculated on an equal-weighted basis for the seven stocks within each group. Past results are not predictive of results in future periods.

We have seen a market that is expanding beyond the Magnificent Seven. The re-rating, or increasing share prices, of industries is broadening and rolling through the global equity markets. But with re-rating comes higher valuations, so as active investors we must be wary of groups of stocks associated with market trends and focus on the prospects of individual companies to deliver top-line growth. And, rather than concentrate on one admittedly dynamic region such as the United States, it makes sense to think globally in the hunt for companies with dominant market positions and strong potential demand for their offerings.

Dutch semiconductor equipment maker ASML, for example, is seeking to tap into rising global demand for semiconductors in support of the build-out of cloud and AI infrastructure. Pharmaceutical giant AstraZeneca has invested aggressively in research and development, resulting in a deep pipeline of cancer and rare disease therapies in late-stage development. Aerospace manufacturer Airbus and jet engine maker Safran are seeking to tap into soaring global demand for air travel.

3. Tech leaders are reshaping the dividend landscape

Long regarded as the domain of mature industries with slowing growth prospects, dividends are gaining favor among information technology giants. Meta, Alphabet and Salesforce all introduced dividends in the first half of 2024, and those announcements appear to be shifting the narrative.

Meta and Alphabet’s dividends can be viewed as a signal of capital discipline among tech innovators and a commitment to shareholder returns. Tech companies accounted for 14.1% of total cash dividends paid by S&P 500 companies in 2023, making them the second largest contributor by sector in dollar terms.

The tech sector ranks second in cash dividend payments

The graphic shows the changing proportions of total cash dividends paid by S&P 500 companies broken down by sector from 1999 through 2023. The cash payments were as follows: for financials, from $28.1 billion in 1999 to $109.2 billion in 2023, accounting for 17.1% of total dividends paid; for information technology, from $4.6 billion in 1999 to $90.1 billion in 2023, accounting for 14.1% of total dividends; for consumer staples, from $16.5 billion in 1999 to $86.2 billion in 2023, accounting for 13.5% of total dividends; for health care, from $13.7 billion in 1999 to $85.8 billion in 2023, accounting for 13.4%; for energy, from $14.6 billion in 1999 to $59.7 billion in 2023, accounting for 9.3% of total dividends; for industrials, from $13.1 billion in 1999 to $59.1 billion in 2023, accounting for 9.2% of total dividends; for consumer discretionary, from $8.8 billion in 1999 to $36.2 billion in 2023, accounting for 5.7% of total dividends; for real estate from $371 million in 1999 to $34.5 billion in 2023, accounting for 5.4% of total dividend payments; for utilities, from $10.1 billion in 1999 to $32.6 billion in 2023, accounting for 5.1% of total dividends; for communication services, from $15.6 billion in 1999 to $27.3 billion in 2023, accounting for 4.3% of total dividends; and for materials, from $5.9 billion in 1999 to $19.2 billion in 2023, accounting for 3.0% of total dividends. The chart includes an inset table listing the 10 largest dividend payers, in billions of dollars, in 2023. They are Microsoft, $20.7 billion; Apple, $15.1 billion; Exxon Mobil, $14.9 billion; Kenvue, $14.6 billion; JPMorgan Chase, $13.5 billion; Johnson & Johnson, $11.8 billion; Chevron, $11.3 billion; Verizon, $11.0 billion; AbbVie, $10.5 billion; and Pfizer, $9.2 billion.

Sources: Capital Group, FactSet, Standard & Poor’s. As of December 31, 2023. Past results are not predictive of results in future periods.

Although dividend yields for many tech firms are modest, the dollar amounts are massive, and we expect continued strong earnings growth both this year and in 2025. Going forward, a broadening opportunity for economic growth should create the potential for improved earnings growth among dividend-paying companies. That can create opportunities for dividend-oriented strategies to generate income and to participate more fully in market appreciation.

For investors seeking current income, technology, aerospace and energy companies have been introducing or increasing dividends. Semiconductor makers Broadcom and Texas Instruments, and General Electric, which makes and services jet engines, all boosted their dividends since the end of 2023. Similarly, energy company Canadian Natural Resources has increased its dividend, despite volatile oil prices.

Bottom line

Given the prospects for solid global growth and healthy fundamentals, equity markets are broadening. While U.S. stock markets are likely to do well, they likely won’t be the only source of superior returns. But with questions lingering over inflation, rates and global trade, selective investing will be critical.

Chris Buchbinder is an equity portfolio manager with 28 years of investment industry experience (as of 12/31/2023). He holds bachelor's degrees in economics and international relations from Brown. 

Martin Jacobs is an equity portfolio manager with 35 years of investment industry experience (as of 12/31/2023). He holds an MBA from Wharton and a bachelor's degree from the University of Southern California. Martin is a CFA charterholder and a member of the CFA Institute.

Gerald Du Manoir is an equity portfolio manager with 34 years of investment industry experience (as of 12/31/2023). He holds a degree in international finance from the Institut Supérieur de Gestion in Paris.

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