Bank of America (BofA) has offered a measured outlook on the S&P 500's potential for strong gains despite optimistic projections for economic expansion. Analyst Savita Subramanian highlights a historical trend where periods marked by robust earnings per share (EPS) and gross domestic product (GDP) growth tend to correspond with some of the weakest annual returns for the S&P 500.
Subramanian notes that stocks generally perform best during times when investor expectations are low and markets are reacting to the avoidance of negative outcomes. The bank's above-average GDP forecast along with an anticipated 14 percent increase in earnings suggests a more modest outlook for equity returns, rather than substantial growth.
BofA has set a year-end target of 7,100 for the S&P 500, implying an approximate 3 percent upside from current levels. This cautious stance is in part due to the S&P 500's sector composition, which is dominated by AI-related companies that are less directly influenced by changes in the broader economy.
Subramanian explains that while an economic upswing could benefit cyclical sectors, these represent a smaller share of the index. She references the 2010s, a decade characterized by weak nominal GDP growth, yet one of the strongest for the S&P 500, underscoring the complex relationship between economic growth and market performance.
Additionally, BofA's U.S. Regime Indicator has recently shifted toward a Downturn phase, a context that historically favors investments in mega-cap stocks and companies with strong quality metrics. However, many fund managers have transitioned their focus from Stagflation scenarios to Boom scenarios, adding layers of complexity to the macroeconomic landscape.
The bank suggests a preference for large cap value stocks, though it describes this as "yawn" indicative of modest enthusiasm. Sectors highlighted include Energy, Financials, Health Care, Staples, and Real Estate. Subramanian also advises a strategy of identifying genuine value investments while avoiding value traps, by considering factors such as value metrics, earnings revisions, and price momentum.
While AI and technology sectors remain influential, the current forecast implies that broader economic gains may not necessarily fuel a significant rally in the overall market. Investors may find opportunity in cyclicals and value-oriented sectors, albeit within a nuanced and evolving economic environment.