Second quarter earnings season is off to a roaring start with S&P 500 profits surging nearly 25%, and this mark the second straight quarter of 20+% growth this year.
Big tech expectations are high, while powerhouse surprises from energy materials and chip makers also prove that this profit boom is finally spreading to the rest of the market.
But with the S&P's 4P ratio stretched above 20 and the Federal Reserve still weighing its next move on rates.
Investors do want to know is this bullish.
And still your friend or our stocks priced for perfection.
Well here to break it all down as well as identify sector winners and the investment outlook is Sam Stel, chief investment strategy strategist at CFRA Research.
Now Sam, good morning.
Thank you so much for joining us.
The earnings season is well underway, but given what we've seen so far and based on expectations, especially ahead of Mag 7 earnings, do you think the profit rally is finally spreading out to the rest of the market?
Yes, I do.
The S&P 500 is currently expected to post a 23% year on year increase in the second quarter, according to S&P estimates, and that was expected to be up 21% just at the beginning of the reporting period.
What we've also found is that 7 out of the 11 sectors have Benefited from higher revisions to what their Q2 earnings are likely to be.
So it's not just tech or communications services.
It is pretty much stretched across the board that earnings increases are expected to be higher and that we're looking for 20+% growth in the next two quarters as well.
And I think it's also important to mention PE ratio here, especially when it comes to the S&P 500 for its PE ratio.
It is standing right now higher than its 5-year, as well as 10 year historical averages.
But with stock prices already reflecting some of these bigger than expected expectations, do you think the market is priced for perfection right now?
And what are your expectations as we head into the rest of 2026?
Well, unfortunately, you could say that the market has been priced to perfection over the last several years, primarily driven by AI.
Over the last 20 years, the S&P is currently trading at a 22% premium to its average forward 12 month PE ratio.
But if you look to the 10 year average, it's at a 6% premium.
And at a 5 year average, it's only a 1% premium, and we're actually trading lower than we were at the beginning of the year.
Most specifically, however, if you say, well, what about tech, on a relative PE basis, meaning the PE for tech versus the PE for The market tech is trading at a 20% discount over the five year period, 10% discount over the last 10 years, and 5% discount over the last 20 years.
So one would actually say that tech is actually looking quite attractive at this moment.
Yes, and here we are in July of 2026 and at a quite different place from where we were at the beginning of the year.
10 of the S&P's 11 sectors are reporting growth.
We're looking at energy, IT, industrials leading the gains, and right now consumer discretionary is the only sector in the red year to date.
So for retail investors out there who may be looking to put fresh money to work, which sectors would you say are some of the safer bets right now?
The safer bets, and you emphasize the word safer, are what's called the defensive areas, so that would be companies found in the consumer staples, meaning food, beverage, tobacco, health care, utilities, real estate areas.
But I think once we get past the Challenging third quarter of midterm election years, which has typically seen the market decline, typically seen 10 of 11 sectors post average sell-offs.
What we find is that from October 31st of midterm election years until October 31 of the year after.
The market has never declined since World War II, and the average price gain was more than 16%.
So this is certainly not a guarantee, but an encouraging statistic to say maybe once we do have a sell-off that you want to gravitate toward growth once again.
And while I have you here, Sam, I do want to get your perspective when it comes to the central bank and the rate outlook.
So Fed policy and interest rates do remain a wild card for the markets.
So do you think the earnings booms keep pushing stocks to new highs, or does the market need Fed rate cuts to sustain this bull run in the long term?
I think having the Fed remain on the sidelines is what the market would prefer because the market acknowledges that we have been seeing inflation remain stubbornly high, but at the same time the market would not be helped by higher interest rates.
Historically over the last 50 years, all of the new Fed chairs, when they made their first rate change, it was to boost rates.
Not reduce them, so we have the track record going against us at this point, but I think that the Fed will end up not doing anything for the rest of 2026 as the new task forces come back, report to the new Fed chair, and we continue to see the possibility that oil prices could come down and that by 2027 the CPI will be approaching the longer term target.
Finally, Sam, there are projections that by the 4th quarter the S&P 493 will actually outperform the MAG 7, or as some are calling the LAG 7 when it comes to earnings growth.
So do you think everyday retail investors should begin rotating, say, cash out of big tech today to prepare for the eventual shift?
Well, certainly rotation is a key.
I'd much rather see rotation than retreat, meaning that I'd rather see investors gravitate from one area into the other.
We do happen to have favorable recommendations still on technology, financials, industrials, as well as some selected energy companies.
And so really it's more of a pick and choose from an individual.
Stock basis within those sectors, so I would tend to say whatever companies have reached the levels where you feel that upward potential has been limited, then I would certainly say you want to gravitate, but I would not do it in a broad swath kind of a change.
And before I let you go, would you be able to give us a quick overview when it comes to your mid-year outlook?
Well, I think that we're likely to see challenging price performances in the 3rd quarter of midterm election years.
Usually we find that the Senate loses 4 seats from the party that's in power.
The House loses 33 seats as we approach the midterm.
Elections, things could get pretty volatile, but I would tend to say that by the end of the year, Q4 tends to be pretty strong in midterm election years and so we could easily see the S&P post an advance by the end of this year as compared where we were in the middle of the year.
Well, Sam, I appreciate your time today.
Thank you so much for joining us and thank you so much for your insights as well as your perspective today.
My pleasure.
