Buy fundamentals and sell sentiment as stimulus lifts dividend outlook

Buy fundamentals and sell sentiment as stimulus lifts dividend outlook

Equities 4 minutes to read
Picture of Peter Garnry
Peter Garnry

Chief Investment Strategist

Summary:  Sentiment has improved dramatically over the past couple of weeks squeezing short positions creating what is most likely a technical bounce in the equity market. Dividend futures pricing expected dividends in 2021 have naturally improved by still suggest a 20% downside risk to S&P 500 from current levels. Our view is to buy fundamentals and sell sentiment which we explain how can be done.


In our latest equity note we suggested 37% downside risk to S&P 500 based on 2021 Dividend Futures on the index. We happened to pick the low point in the dividend futures market and the market has bounced back over the past 10 days as the increasing amount of stimulus has lifted the outlook for dividends. In this update we have enhanced the analysis and show that the fair value of S&P 500 is still 20% below the latest price.

13_PG_1
Source: Bloomberg and Saxo Group

Due to the volatility in dividend futures we smooth it out by calculating the 5-day average of the volume weighted average price of the 2021 Dividend Futures contract which is currently $39.82 and considerably lower than the 12-month rolling dividend per share in the S&P 500 at $60.61. Next we compute the monthly dividend yield, earnings yield and payout ratio since 1995 to get a range of potential valuation levels to take us from the 2021 dividend futures to a fair value distribution of the S&P 500.

Since 1995 the average dividend yield is 1.9%, average earnings yield is 5.3% and the average payout ratio is 35.8%. The total distribution of fair value is then the 5-day average price of the 2021 dividend futures multiplied by the inverse dividend yield. But the fair value of earnings per share is a bit more cumbersome. One thing is the range in earnings yield but the expected 2021 dividends also have a range of potential earnings per share driven by the payout ratio. So we generate expected earnings per share figures from the payout ratio and then multiply those by the inverse earnings yield to get to a range of fair values. In total we get 92,112 estimates for the fair value of S&P 500 leading to a distribution showing the most likely fair value range.

The average is 2,205 and the median is 2,126 which points to sentiment being too positive against expected dividends and earnings in 2021. In our view the latest rally is mostly technical driven by short positions being closed but also investors betting on the massive stimulus will create a V-shape recovery. We are still not buying this thesis and lean more towards a L-shape recovery or at best a U-shape recovery.

13_PG_2
Source: Bloomberg

There are several ways to convert this into a trading position. The obvious one is a short position in US equities either through a CFD, future or option. Another way is to buy fundamentals (that’s being long dividends) and short sentiment (in this case US equities). This can be done again through futures. If one doesn’t have access to dividend futures one can make a synthetic long dividends bet by getting long exposure to ETFs tracking dividends stocks (potentially the dividend aristocrats as one needs exposure to those that can maintain dividends) and sell US equities.

Quarterly Outlook

  • Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges

    Quarterly Outlook

    Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges

    Althea Spinozzi

    Head of Fixed Income Strategy

  • Equity Outlook: Will lower rates lift all boats in equities?

    Quarterly Outlook

    Equity Outlook: Will lower rates lift all boats in equities?

    Peter Garnry

    Chief Investment Strategist

    After a period of historically high equity index concentration driven by the 'Magnificent Seven' sto...
  • FX Outlook: USD in limbo amid political and policy jitters

    Quarterly Outlook

    FX Outlook: USD in limbo amid political and policy jitters

    Charu Chanana

    Chief Investment Strategist

    As we enter the final quarter of 2024, currency markets are set for heightened turbulence due to US ...
  • Macro Outlook: The US rate cut cycle has begun

    Quarterly Outlook

    Macro Outlook: The US rate cut cycle has begun

    Peter Garnry

    Chief Investment Strategist

    The Fed started the US rate cut cycle in Q3 and in this macro outlook we will explore how the rate c...
  • Commodity Outlook: Gold and silver continue to shine bright

    Quarterly Outlook

    Commodity Outlook: Gold and silver continue to shine bright

    Ole Hansen

    Head of Commodity Strategy

  • FX: Risk-on currencies to surge against havens

    Quarterly Outlook

    FX: Risk-on currencies to surge against havens

    Charu Chanana

    Chief Investment Strategist

    Explore the outlook for USD, AUD, NZD, and EM carry trades as risk-on currencies are set to outperfo...
  • Equities: Are we blowing bubbles again

    Quarterly Outlook

    Equities: Are we blowing bubbles again

    Peter Garnry

    Chief Investment Strategist

    Explore key trends and opportunities in European equities and electrification theme as market dynami...
  • Macro: Sandcastle economics

    Quarterly Outlook

    Macro: Sandcastle economics

    Peter Garnry

    Chief Investment Strategist

    Explore the "two-lane economy," European equities, energy commodities, and the impact of US fiscal p...
  • Bonds: What to do until inflation stabilises

    Quarterly Outlook

    Bonds: What to do until inflation stabilises

    Althea Spinozzi

    Head of Fixed Income Strategy

    Discover strategies for managing bonds as US and European yields remain rangebound due to uncertain ...
  • Commodities: Energy and grains in focus as metals pause

    Quarterly Outlook

    Commodities: Energy and grains in focus as metals pause

    Ole Hansen

    Head of Commodity Strategy

    Energy and grains to shine as metals pause. Discover key trends and market drivers for commodities i...

Disclaimer

The Saxo Bank Group entities each provide execution-only service and access to Analysis permitting a person to view and/or use content available on or via the website. This content is not intended to and does not change or expand on the execution-only service. Such access and use are at all times subject to (i) The Terms of Use; (ii) Full Disclaimer; (iii) The Risk Warning; (iv) the Rules of Engagement and (v) Notices applying to Saxo News & Research and/or its content in addition (where relevant) to the terms governing the use of hyperlinks on the website of a member of the Saxo Bank Group by which access to Saxo News & Research is gained. Such content is therefore provided as no more than information. In particular no advice is intended to be provided or to be relied on as provided nor endorsed by any Saxo Bank Group entity; nor is it to be construed as solicitation or an incentive provided to subscribe for or sell or purchase any financial instrument. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. As such no Saxo Bank Group entity will have or be liable for any losses that you may sustain as a result of any investment decision made in reliance on information which is available on Saxo News & Research or as a result of the use of the Saxo News & Research. Orders given and trades effected are deemed intended to be given or effected for the account of the customer with the Saxo Bank Group entity operating in the jurisdiction in which the customer resides and/or with whom the customer opened and maintains his/her trading account. Saxo News & Research does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. To the extent that any content is construed as investment research, you must note and accept that the content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication under relevant laws.

Please read our disclaimers:
Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)
Full disclaimer (https://www.home.saxo/legal/disclaimer/saxo-disclaimer)

Saxo Bank A/S (Headquarters)
Philip Heymans Alle 15
2900
Hellerup
Denmark

Contact Saxo

Select region

International
International

All trading and investing comes with risk, including but not limited to the potential to lose your entire invested amount.

Information on our international website (as selected from the globe drop-down) can be accessed worldwide and relates to Saxo Bank A/S as the parent company of the Saxo Bank Group. Any mention of the Saxo Bank Group refers to the overall organisation, including subsidiaries and branches under Saxo Bank A/S. Client agreements are made with the relevant Saxo entity based on your country of residence and are governed by the applicable laws of that entity's jurisdiction.

Apple and the Apple logo are trademarks of Apple Inc., registered in the US and other countries. App Store is a service mark of Apple Inc. Google Play and the Google Play logo are trademarks of Google LLC.