RBC Capital Markets has carried out a new valuation stress test that suggests the S&P 500's fair value would be around 5,500 by the end of the year.
According to the investment bank, the analysis is grounded in optimistic assumptions about inflation, lower 10-year yields, and more Federal Reserve rate cuts than current consensus expectations.
“That 5,500 index level is close to recent highs,” analysts at RBC noted.
“While we consider our valuation model to be a compass, not a GPS, our work here nevertheless continues to make us worry that the US equity market has gotten a little ahead of itself in the short term due to a little too much optimism around interest rates and inflation after the latest CPI print/Fed meeting,” they added.
Analysts at RBC pointed out that their 5,500 estimate is not their base case projection for the 2024 year-end, but rather an exercise aimed at understanding what the stock market may be pricing in currently.
The note also mentions several more stress tests to gauge other economic scenarios. One scenario, which is more pessimistic, uses assumptions from the June Summary of Economic Projections (SEP) including a PCE rate of 2.6%, one rate cut, and a 10-year yield of 4.25%. This points to a fair value of 5,237 for the S&P 500.
Another stress test considers no further Fed moves, stickier inflation and 10-year yields stabilizing around 4.5%, implying a fair value of 5,105. The most pessimistic scenario, which includes further rate hikes, higher-than-expected inflation (PCE above 3%), and a 10-year yield reaching 5.5%, indicates a fair value drop to between 4,600 and 4,700.