Goldman Sachs raised its 2019 year-end price target for the U.S. benchmark S&P 500 index by 3% to 3,100 on Tuesday, but lowered its earnings estimates, citing weakness in economic activity and margin outlook.
In a research note, the Wall Street giant lowered its 2019 earnings-per-share estimate for the index by $6. EPS is an important metric for traders to gauge the value of a stock. At the start of the year, Goldman predicted that 2019 EPS growth would likely equal range from 3% to 6%, but now expects it will hit the lower end.
"Economic growth has been below-trend, oil prices have been range-bound, and tariff uncertainty has not abated," analysts led by chief U.S. equity strategist David Kostin, said.
Despite the earnings squeeze, they analysts are still positive on a further rise for stock markets. The new price target for the S&P 500 implies a 24% full-year gain for 2019. It also set a 2020 year-end price target of 3,400, a 10% rise from the 2019 target.
"The dovish Fed pivot has driven the equity market rally in 2019, and we expect low interest rates will continue to support above-average valuations going forward," the note said.
The overall forecast would see the U.S. stock market extend a decade-long bull run into another year and breach the intraday record posted last week. The S&P 500 closed at 3,020 on Monday.
Investors are expecting the Federal Reserve to cut interest rates by a quarter-point on Wednesday, with some analysts pricing in a further cut before the end of the year.
The Goldman analysts suggested several strategies for investors, including to "add selective exposure to cyclical equities such as transports" on the expectation that "easy financial conditions, among other factors, should lift U.S. economic growth from its depressed pace of 1% in June."
The note also suggested that global policy exposure and the 2020 U.S. election make health-care stocks uniquely vulnerable to political risk. However, within the sector, Goldman analysts said investors were focusing excessively on "Medicare for All" relative to the risk of drug price regulation. They recommended favoring providers and services over pharmaceuticals but retained a general underweight position in health care.
The more bullish outlook for 2020 is based on Goldman's forecast that U.S. and global growth will rebound modestly next year. Its economists expect real U.S. GDP growth will rise from 1.7% in the third quarter of 2019 to 2.5% in the second quarter of 2020, consistent with low, single-digit earnings growth.
Based on Goldman's top-down model, every 100 basis point change in real U.S. GDP growth translates to roughly $5 of S&P 500 EPS.
The economists also expect margins to decline in 2019 but rebound modestly in 2020. S&P 500 net profit margins peaked at 11.3% in 2018, driven by a combination of strong revenue growth and the tax overhaul, but declined in the first quarter of 2019. The note attributes this to input costs weighing on profitability and "industry-specific dynamics among semiconductor companies" dragging on the aggregate index.
Goldman forecasts a 39 basis point margin contraction in 2019, rebounding to a 14 basis point expansion in 2020 as "economic growth accelerates and the semiconductor cycle improves," though this remains below consensus estimates of a 65 basis point gain.