S&P 500 Price Target Raised at Canaccord; Low Rates Again Are the Catalysts

Low interest rates could expand earnings multiples and support growth in the economy and earnings.
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Wall Street is largely calling for gains in the S&P 500 to decelerate from 2019's likely pace. But one strategist just raised his price target on the index, citing the Federal Reserve's continuation of the low-interest-rate environment. 

The S&P 500 has gained 24% year to date, driven largely by low interest rates, continued economic growth and optimism that a U.S.-China trade deal will get done. 

And as the current expansion rolls past its 10th year and some economists are looking for GDP to grow 1.2%, one would be hard-pressed to find a strategist who's calling for explosive stock gains from here. 

But Canaccord Genuity Chief Market Strategist Tony Dwyer raised his target on the S&P 500 to $3,400 from $3,350, with the new level indicating 9.5% upside from the index's current level. 

Dwyer says the Fed's explicit willingness to lower rates if the economic data come in weaker than expected, combined with the credit markets' indication that a recession is far out, is making him slightly more bullish. 

"The ultimate Fed put has been engaged," Dwyer said. "The generational change in how the Fed views inflation has been made clear by Fed Chair [Jerome] Powell, who literally told us that the Fed is going to remain on the sidelines for the foreseeable future, which gives us an offensive playbook." 

Low rates are part of Dwyer's 6% earnings-per-share-growth expectation, to $172, for the index and his estimate that earnings multiples based on forward EPS will expand.

He's looking for the multiple to hit 20 from an earlier estimate of 19. Low rates stimulate spending but also increase the value of corporate cash flows. 

Currently, the average forward multiple on the S&P 500 is about 17.5, which some call fairly valued and other called overvalued. 

But a growing number of strategists are calling for slight expansion of multiples from here, given the low rates. In late November, Stifel's head of institutional equity strategy, Barry Bannister, said the forward multiple on the index can reach 19.25 in 2020, driven by low rates

Dwyer is not worried about a recession coming sooner rather than later and says currently tight credit spreads indicate as much. 

Right now, U.S. high-yield bonds have a four-percentage-point yield spread over the 10- year treasury, lower than the six-point spread in late 2018. This indicates credit investors have been bullish in 2019 and aren't worried about corporate and household credit defaults. 

Regarding lower interest rates, many bears have said they see the low-rate environment having a smaller impact on economic growth going forward.