S&P 500 (INDEXSP: .INX): Bubble territory, earnings and how to buy

The S&P 500 (INDEXSP: .INX) is now in bear territory. Prior to mid February the index continued to hit record highs in 2020, including new highs on Feb. 11. Both the S&P and the Nasdaq touched new records as Wall Street expressed optimism in the stock market due to a slowdown in new cases of the coronavirus in China. The Dow Jones Industrial Average also soared to a new record intraday high. However, all that ended as coronavirus started spreading primarily in Italy and now the US. INX and other major indices are down on fears that most of the economy is likely to shut down.

What is the S&P 500 (INDEXSP: .INX)?

The S&P 500 is a widely used measuring stick for U.S. stocks because it tracks the stocks of 500 of the biggest companies in the nation. S&P stands for Standard and Poor, the names of the two companies that created the index originally. Henry Poor was an analyst who put together a book every year listing public railroad companies. Poor’s book was merged with the publication of the Standard Statistics Bureau in 1941.

A committee selects the companies that will be included in the S&P, but all companies must fit certain criteria before they will even be considered. The eight criteria are market capitalization, sector, liquidity, public float, domicile, financial liability, stock exchange, and length of time they have been public.

This hedge fund is so optimistic about COVID-19 that they’re short Clorox [In-Depth]

coronavirusA lot has happened since the coronavirus pandemic began, but aside from the temporary selloff in March, the stock market has continued to hum along as if nothing has been happening. There's no denying that the financial markets have been changed by the pandemic, and investors should be thinking differently when it comes to investing Read More


How to get included in the INX index

All companies included in the index must have a market capitalization of at least $5.3 billion. A minimum of 250,000 shares must change hands in each of the six months before the data of evaluation for inclusion in the index. The companies are also selected across all sectors to represent the economy of the U.S.

The companies must be listed on either the New York Stock Exchange or the Nasdaq, and they must be headquartered in the U.S. They must have been public for at least six months and have posted at least four consecutive quarters of positive as-reported earnings. For this reason, even though Tesla has achieved a massive market cap of $138.84 billion, it isn’t ready to be included in the S&P because it hasn’t yet posted four consecutive quarters of positive as-reported earnings.

How to buy the S&P

The easiest way to buy the S&P 500 is to invest in a passive fund that tracks the index. Some common exchange-traded funds that track the index include the Vanguard S&P 500 ETF, the SPDR S&P 500 ETF, and the iShares Core S&P 500 ETF.

It’s also possible to purchase individual stocks that are found in the S&P 500 (INDEXSP: .INX). In some ways, that may be the wiser move, although it is more complicated for individual investors.

CNN argues that the S&P 500 has basically become the S&P 5. The index’s entire market value is $26.7 trillion, and the top five stocks make up $4.85 trillion of it. The top five stocks are all tech names: Apple, Microsoft, Amazon, Alphabet and Facebook.

The last time the weighting of the index was so heavily skewed toward one sector was in 2000 right before the bursting of the dotcom bubble. Currently, Apple and Microsoft’s weightings in the index are higher than those of some industries.

Another way to buy the S&P is to buy futures contracts in the derivatives market via the Chicago Mercantile Exchange. The futures contracts track the index and trade on the exchange or CME’s Globex platform.

Is the S&P 500 (INDEXSP: .INX) overvalued or in a bubble yet?

So does this mean the S&P is overvalued or in a bubble? It depends on who you ask, but JPMorgan analysts said the index isn’t in a bubble until it reaches 3,700, Bloomberg reported in January 2020. At less than 3,400, the index is still well below that level. The firm said the S&P would have to hit 3,700 in the second half of this year to be in a bubble.

JPMorgan strategists explained that bubbles often start with two or three years of positive rolling 12-month performance. An accelerated rally follows those two or three years. This is what happened to the Dow Jones in the late 1920s, the Nasdaq 100 in the late 1990s and gold in the late 1970s. All of these situations are widely referred to as bubbles.

If the S&P 500 (INDEXSP: .INX) reaches or exceeds 3,700 in the second half of this year, it would line up with the 12-month growth rate pattern JPMorgan identified in previous bubbles. They did say the index’s performance between 2017 and 2019 does roughly line up with the performance leading into previous market bubbles. Thus, all that’s needed is one year of an accelerated rally.

Where will the S&P go this year?

Looking at the S&P more realistically, analysts are looking for the index to reach levels of 3,400 to 3,500. Of the strategists tracked by Bloomberg, 3,500 was the highest target offered for the end of this year.

In a note on Feb. 10, 2020, Canaccord Genuity analysts Tony Dwyer and Michael Welch said they are looking for a target of 3,440 at the end of this year. They downgraded their market view to Neutral recently because the index is relatively close to their target already.

INX valuation levels

They based their target on their projected earnings for the index year. They’re looking for $172 in earnings per share for the S&P in 2020. They are also assuming the operating earnings per share P/E multiple for the trailing 12 months remains around 20.

To come to a higher target for the S&P, they would have to see higher earnings per share numbers for the index this year. They add that it’s unlikely that earnings will be higher than that until more clarity is seen on the impact of the coronavirus on the global economy. On the other hand, they also say investors shouldn’t be too cautious.

“We would be careful to not get overly cautious because the monetary and fiscal backdrop should remain positive, and the U.S. economy driven by low inflation, full employment, high confidence, and a demographic tailwind to support further long-term upside,” they explained.

With their earnings estimate at $172 for 2020, Canaccord Genuity is below consensus. Consensus stands closer to $176 per share.

S&P outlook: index could rise in the double digits in 2020

On Feb. 4, 2020, Fundstrat co-founder Tom Lee told Yahoo Finance that the S&P 500 index (INDEXSP: .INX) could deliver another year of double-digit returns this year. He expects the industrial cycle to return to growth, based on a sharp increase in the latest reading on the manufacturing purchasing mangers’ index.

The ISM manufacturing PMI climbed to 50.9 last month, clocking the highest level in six months. The S&P 500 index also rebounded on Feb. 4 and 5 as fears about the coronavirus subsided. Reports of a possible treatment for it boosted the stock market on Wednesday.

The Dow Jones Industrial Average also climbed on Feb. 5, rising an impressive 1.42% by the afternoon amid signs that the spread of the coronavirus was slowing. Analysts say the Dow Jones climbed more than 200 points as Wall Street expressed optimism over the possibility of a vaccine for the coronavirus.

The stock market in general moved higher on Feb. 5 as the Nasdaq Composite (INDEXNASDAQ: IXIC) was also up, although less than the S&P 500 index (INDEXSP: .INX) and the Dow. The Nasdaq managed a new record during the regular trading day, following the previous record set the day before.