Assessing a new starting point

Against an exceptionally optimistic economic outlook, we analyze previous cycles to understand what may come next for stocks.

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April 20, 2021 | 8 minute read

The U.S. equity market has defied gravity over the past 12 months. The transition from bear market to tech-led rebound to pro-cyclical surge has occurred at a head‑spinning pace—a feature of this economic cycle that we don’t expect to subside any time soon. Markets are staring down an exceptionally rosy economic outlook. While this is undoubtedly a positive backdrop for equities, we must acknowledge that the past year of gains has changed investors’ starting point significantly. We draw from previous cycles to analyze what may come next for stocks.

The current equity market cycle has evolved remarkably quickly and has been dictated by the unique nature of the economic downturn. The COVID-19 recession has been more akin to a natural disaster than a traditional recession, and the U.S. government’s “kitchen sink” response has only enhanced that reality. As economic fundamentals have recovered rapidly, earnings expectations have followed, bringing equity prices along with them. In March, consensus forward 12-month EPS forecasts for the S&P 500 recovered to their pre-crisis peak levels, a full 11 months quicker than any of the previous four recessions.1 Consider that earnings expectations fell 21% to a trough in May 2020, the second-steepest decline for any downturn, and we can get a sense of the momentum that equity markets have been riding. Each phase of this market cycle—the crash, the rebound and the cyclical rotation—has transpired with unprecedented velocity, and we expect that will continue.1

S&P 500 earnings forecast recoveries
How long did it take forward 12-month EPS expectations to recapture the previous cycle high?

Bloomberg Finance, L.P., as of April 13, 2021. GFC refers to the global financial crisis of 2007–08.

Key takeaways

  • In just over a year, U.S. equity markets have experienced a bear market, a tech-led rebound and an early‑cycle rotation.
  • Explosive growth in 2021 is now taken as a given, and earnings forecasts have rapidly priced in this optimism.
  • We still see upside for U.S. cyclicals; however, this has historically been the point in the cycle when investors should look to move toward higher-quality stocks.
  • Opportunity remains for those who understand the segmented global recovery.

  • Bloomberg Finance, L.P.

This information is educational in nature and does not constitute a financial promotion, investment advice or an inducement or incitement to participate in any product, offering or investment. FS Investments is not adopting, making a recommendation for or endorsing any investment strategy or particular security. All views, opinions and positions expressed herein are that of the author and do not necessarily reflect the views, opinions or positions of FS Investments. All opinions are subject to change without notice, and you should always obtain current information and perform due diligence before participating in any investment. FS Investments does not provide legal or tax advice and the information herein should not be considered legal or tax advice. Tax laws and regulations are complex and subject to change, which can materially impact any investment result. FS Investments cannot guarantee that the information herein is accurate, complete, or timely. FS Investments makes no warranties with regard to such information or results obtained by its use, and disclaims any liability arising out of your use of, or any tax position taken in reliance on, such information.

Any projections, forecasts and estimates contained herein are based upon certain assumptions that the author considers reasonable. Projections are necessarily speculative in nature, and it can be expected that some or all of the assumptions underlying the projections will not materialize or will vary significantly from actual results. The inclusion of projections herein should not be regarded as a representation or guarantee regarding the reliability, accuracy or completeness of the information contained herein, and neither FS Investments nor the author are under any obligation to update or keep current such information.

All investing is subject to risk, including the possible loss of the money you invest.

Andrew Korz, CFA

Executive Director, Investment Research

Robert Hoffman, CFA

Managing Director, Credit Wealth Solutions

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