Goldman Sachs has predicted a 3% annualized growth in the S&P 500 index over the next 10 years in a base case scenario, however, this expert warns that such a prediction highlights “no relationship” between the valuation metric price-to-earnings ratio and real returns.
What Happened: According to Goldman Sachs’s global strategy paper, the annualized 10-year returns for the S&P 500 stood at 13% for the period between 2014 to 2024. The distribution around this forecast ranges from -1% to +7%, with 3% being the baseline.
However, Seth Golden, the chief market strategist at Finom Group, has said “With this forecast, caveat being there is no relationship between P/E and real returns.”
This implies that he doesn’t think that high or low P/E ratios necessarily predict future real returns. Golden is challenging a fundamental assumption of Goldman’s model, suggesting that their forecast might be based on a potentially unreliable relationship.
Why It Matters: According to the paper released by Goldman, their long-term equity returns are modeled as a function of five variables: starting absolute valuation, stock market concentration, economic contraction frequency, corporate profitability, and interest rates.
This implies that they believe the P/E ratio, or similar valuation metrics, has a predictive power regarding future real returns.
“Our baseline return forecast is most sensitive to changes in starting valuation. All else equal a one multiple change in starting valuations would change our baseline return forecast by 31 bp,” the paper added.
The paper also highlights that equities will face stiff competition from other assets during the next decade. There is a high probability that the S&P 500 will underperform bonds and inflation.
“Our 3% annualized equity return forecast combined with a current ten-year U.S. Treasury yield of 4% and ten-year breakeven inflation of 2.2% suggests the S&P 500 has roughly a 72% probability of trailing bonds and a 33% likelihood of lagging inflation through 2034,” stated the strategy paper.
However, the criticism from Golden reaffirms the debate amongst investors and analysts about the reliability of valuation metrics to predict future market performance.
Price Action: The S&P 500 index has fallen by 1.72%, the Nasdaq 100 is down 3.79% and Dow Jones is up 0.45% on a year-to-date basis.
The SPDR S&P 500 ETF Trust SPY and Invesco QQQ Trust ETF QQQ, which tracks the S&P 500 index and Nasdaq 100 index, respectively, rose on Monday. The SPY advanced 1.79% to $574.08, and the QQQ gained 2.19% to $490.66, according to Benzinga Pro data.
On Tuesday, the future of Dow Jones fell by 0.10%, whereas the S&P 500 and Nasdaq 100 declined by 0.05% and 0.03% respectively.
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Disclaimer: This content was partially produced with the help of AI tools and was reviewed and published by Benzinga editors.
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