Correction To Come For S&P 500? Coutts Considers

James Butterfill, Equity Strategist at Coutts, considers S&P 500 passing all-time high

The US has now surpassed the mother of all psychological barriers, the all-time-high. This begs the question, will we now see a substantial correction as investors take profits having risen a whopping 9.9% year-to-date?

To put this in perspective, if the S&P500 was to continue to rise at the rate seen this year's rate, the index would close 2013 at year-end, a total YoY rise of 41%. Historically, when equities have hit all-time-highs after a long doldrum periods, they tend to continue to rise for the following six months.

The index also recently pushed past our full-year fair value of 1555, this target is based on our assumptions for macro economics, most notably purchasing managers' buying intentions, money supply, leading economic indicators and the USD.

Recent macro data has been much more supportive of a view that the US is on a much sounder economic footing, purchasing managers' intentions are the highest since early 2011. Money supply is continuing to improve, greasing the wheels of corporates and other leading economic indicators such as building permits continue to rise.

This strong economic data therefore points to adopting our bull-case scenario where we see the S&P500 rising to 1750, although it is perhaps a little too early to adopt this fair value though as consumers are likely to feel the impact of the payroll tax cut that expired at end-2012.  Recent Michigan consumer sentiment data reflects the fact consumers are feeling the pinch from the tax cut expiry.

Looking into the detail, this rally has been defensives-led which typically has a higher dividend yield than more economically sensitive cyclical equities and has outperformed cyclicals by 2.5% ytd. It suggests that this rally has been led by yield-hungry, cautious investors who aren't satisfied with the record low yields in corporate bonds.

Yield-hungry investors do not tend to leave any asset class in a rapid manner either, as a buy and hold stance is required to receive income. Consequently it is unlikely that any sell-off in the S&P500 will be substantial. Additionally, equities are likely to be further supported by a strong set of earnings results in the upcoming earnings season and current valuations are unchallenging.