The S&P 500 has delivered an impressive run over the past four years, gaining approximately 100% before dividends. Historically, returns of this magnitude are rare, ranking among the top 10% of all rolling four-year periods since 1928. Perhaps even more remarkable is that these gains have occurred despite elevated inflation, aggressive Federal Reserve rate hikes, trade uncertainty, and geopolitical conflict in the Middle East.
After such a strong rally, many investors naturally wonder whether markets have come too far, too fast. While recent performance has been exceptional, strong returns alone are not necessarily a reason to become cautious. Instead, they reinforce the importance of monitoring the underlying fundamentals that have supported the market's advance.
One of the biggest drivers has been corporate earnings. While enthusiasm surrounding artificial intelligence has certainly contributed to market optimism, healthy profit growth and a resilient economy have provided the foundation for higher stock prices. Looking ahead, analysts continue to expect earnings growth to remain strong, but companies will need to meet those expectations while demonstrating that AI investments continue to deliver long-term value.
This week brings several important reports that could help determine whether those fundamentals remain intact. Investors will receive the latest Consumer Price Index (CPI), providing an updated look at inflation, followed by retail sales data that offers insight into consumer spending, which accounts for roughly two-thirds of the U.S. economy. The week also marks the beginning of second-quarter earnings season, when companies will begin reporting financial results and sharing their outlook for the months ahead.
Current expectations call for S&P 500 earnings to grow roughly 24% from a year ago, with growth expected across 10 of the index's 11 sectors. That broad participation would be another encouraging sign that earnings growth is expanding beyond a small group of large technology companies and becoming more widespread across the economy.
As earnings season unfolds, investors will be watching more than quarterly results. Management commentary about consumer demand, business investment, and confidence in continued AI spending may provide valuable clues about the market's direction during the second half of the year.
While no one can predict where market leadership will come from next, maintaining a diversified portfolio remains one of the most effective ways to navigate changing market conditions. This week's economic reports and corporate earnings should provide a clearer picture of whether the key drivers behind the current bull market remain firmly in place.
Often quoted in major national media, Adam is a Chartered Financial Analyst (CFA®), a CERTIFIED FINANCIAL PLANNER™ (CFP®), and has been included on the Forbes NextGen Best-in-State Wealth Advisors 2019 list. He is a member of the CFA Society of Los Angeles and the CFA Institute. Adam helps establish asset allocation strategy as a member of the EP Wealth Investment Committee, which supports all EP Wealth Advisors and their clients. The Committee’s top-down approach to portfolio construction begins with an outlook on the economy’s likely direction, followed by the implications for different economic sectors and asset classes. This culminates in strategic selection of the individual stocks, bonds, mutual funds or other investments deemed most appropriate for each individual client’s portfolio.
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Video Transcript:
Adam Phillips:
This week, I want to start by taking a step back and putting the current market into perspective.
I recently came across a great chart from Goldman Sachs that shows that the S&P 500 has gained roughly 100% over the past four years before dividends. That's a remarkable run and, historically speaking, it's pretty rare. Going all the way back to 1928, a four-year return of this magnitude ranks well into the top 10% of all rolling four-year periods.
What's even more impressive is everything investors have navigated along the way. Over these four years, we've lived through periods of elevated inflation, aggressive Fed rate hikes, the Liberation Day and trade war scare, and more recently a supply shock caused by the conflict in the Middle East. Despite all of that uncertainty, the market has continued to climb.
Now, when people see a chart like this, the natural question is, "Have we come too far, too fast?"
I don't think that's the right conclusion. But I do think it's important to appreciate just how strong this run has been and to manage expectations accordingly. The good times don't necessarily have to be over, but after a move like this, things need to continue going right.
The encouraging part is that this hasn't simply been a rally driven by AI euphoria. While AI has certainly been an important tailwind, the biggest driver has been corporate earnings. Companies have continued to grow profits, the economy has remained surprisingly resilient, and that's provided the fundamental support for higher stock prices.
Looking ahead, analysts continue to expect healthy earnings growth over the next couple of years. That's certainly encouraging, but it also means expectations are high. Companies will need to continue delivering, and investors will want confirmation that the AI investment story remains intact, that businesses are still investing aggressively because they continue to see attractive long-term returns, and that earnings growth is becoming broader across the economy—not just concentrated in a handful of AI-related companies.
That brings us to this week, which could give us some important clues about whether those fundamentals remain in place.
On Tuesday, we'll get the latest Consumer Price Index, or CPI, which is one of the key measures of inflation. This month’s reading, which is based on June data, should come in a bit lower than the previous month, but we are in no way out of the woods, especially given the recent re-escalation in the Middle East.
Then on Thursday, we'll get Retail Sales, which provides one of the best snapshots of the health of the U.S. consumer. Since consumer spending drives about two-thirds of the U.S. economy, this report gives investors a better sense of whether households are continuing to spend despite inflationary pressure and ongoing geopolitical uncertainty.
This week also marks the start of second-quarter earnings season, and I think that's likely to become the market's biggest focus over the next several weeks.
Current expectations are for S&P 500 earnings to grow roughly 24% compared to a year ago. Energy is expected to be one of the strongest contributors, helped by higher oil prices following the conflict in the Middle East, while Information Technology is once again expected to post strong growth as companies continue to benefit from AI-related demand.
But one statistic that stands out to me is that analysts expect earnings growth from 10 of the 11 sectors in the S&P 500 this quarter. That's important because investors have been waiting to see earnings broaden beyond just a small group of mega-cap technology companies. If that happens, it would be another healthy sign for the overall market.
As earnings reports begin rolling in, investors will be paying just as much attention to what management teams say as to the numbers themselves. They'll want to hear that companies remain confident enough to continue investing in AI, that they're still seeing demand hold up, and that profit growth remains healthy across a broader range of industries.
At the end of the day, I don't think a strong four-year run is, by itself, a reason to become nervous. Markets have delivered exceptional returns because earnings and the economy have largely supported them.
What it does reinforce is why we continue to focus on diversification. None of us knows exactly what the next market leader will be or what challenge investors will face next. A diversified portfolio allows us to participate when opportunities broaden while also helping manage risk if expectations become a little too optimistic or leadership begins to shift.
This week's inflation report, retail sales data, and the start of earnings season should give us a much better sense of whether the key drivers behind this bull market remain firmly in place.