The record rally in the stock market isn't over, says market veteran Ed Yardeni. Despite investor concerns about a narrow rally in mega-cap tech stocks, stretched valuations, and signs of an economic slowdown, Yardeni finds confidence in strong earnings.
"These are all legitimate concerns. Here are a few reasons to be somewhat less concerned," Yardeni told clients in a note on Sunday.
Forward Earnings Expectations Rise
Analysts' forward earnings expectations hit a record high last week, showing that the market rally is supported by profits. Analysts now forecast the S&P 500's annualized earnings per share at $261.74.
"This all assumes, as we do, that a recession is unlikely anytime soon, especially since the Fed will lower interest rates to avert one if necessary," Yardeni said.
Market Breadth Will Improve
While the stock market rally has been driven mostly by a few companies, improving earnings breadth should lead to better market breadth, according to Yardeni.
"The percent of S&P 500 companies with positive three-month percent changes in forward earnings rose to a bull-market high of 83% during the July 5 week. That argues for a broadening of the stock market's breadth," Yardeni explained.
Valuations Are Not Stretched
While the S&P 500 has a high forward price-to-earnings multiple of about 21x, the index's median forward price-to-earnings multiple is just 17.8x.
"The broad market is not overvalued, in our opinion, and could go up on a combination of better earnings and a higher valuation multiple through the end of the decade," Yardeni said.
In a CNBC interview on Monday, Yardeni said he expects solid earnings growth for the S&P 500 through the end of the decade, with earnings per share reaching $250 this year, $270 next year, and up to $400 by the end of the decade.
AI is a big part of Yardeni's bullish outlook. He pointed to raised second-quarter guidance from Corning as evidence that the AI boom is spreading to other companies. Corning soared 10% on Monday after it reported strong demand for its optical connectivity products, essential for data centers.
"That just demonstrated that the AI story is legitimate. There's a lot of companies that are benefiting from AI," Yardeni said.
As to whether the stock market is repeating the 1990s dot-com boom via the AI growth story, Yardeni noted some similarities but suggested that the Fed could lower interest rates if the economy and markets turn south.
"There's a bit of deja-vu all over again when we look at the market and compare it to what happened in the late 1990s. I think the way I would describe things is we're in a slow-motion melt-up," Yardeni said.
"The market for the past few weeks has continued to march higher to new record highs, and it's done it on disappointing economic indicators because I think investors have concluded that let's not worry too much about the economy slowing or even a recession because if that were to become a significant risk, the Fed will move pretty quickly to lower interest rates," Yardeni said.
