2024 is expected to be an exciting year for stocks, with the Fed expected to cut rates by nearly 175 basis points, while earnings growth tops the consensus for the S&P 500 (SP500) bucket is cut just below double-digit rates for the year, according to data compiled by Refinitiv. This bullish backdrop recently prompted me to increase mine base case target price for the S&P 500 at ~5,300 points by the end of 2024.
After the FOMC projection release on Dec. 13, traders went all-in to price six cuts worth 25 basis points each to 2024, suggesting rates could fall to around 3.5%. This is a major paradigm shift in macro, and investors have the right to reprice valuations across all asset classes, especially bonds and stocks…
… Specifically for stocks, I am confirmed in my bullish projection that The S&P 500 is poised to end 2024 with positive returns. Specifically, with earnings growing at near double-digit rates year-over-year and interest rates projected to decline toward 3.5% based on a CPI below 2% year-over-year, I submit that the U.S. equity benchmark should reasonably priced around one 23x multiples.
Rounding out my bullish view of stocks, there are a few names that stand out as particularly attractive, poised to enjoy a big benefit from pending rate cuts. In my view, the most promising stock to capture the Fed’s pivot is Citigroup (C), Roblox (RBLX), Microsoft (MSFT), of Stellar (STLA), and KKR Real Estate Finance Trust Inc. (CREF). In this article, I discuss these names in more detail.
Citigroup: Cheap Valuation Meets Macro Tailwind
In 2023, bank stocks faced tough times, driven more by sentiment than fundamentals. In particular, the failures of Silicon Valley Bank and Credit Suisse caused concerns about rate cycles, leading to low multiples trading across the industry, similar to those during the Great Financial Crisis. Citigroup stock, for example, is at 0.6x P/TBV, comparable to past levels, as noted in a Morgan Stanley research note.
Looking ahead to 2024, sentiment looks set to improve as monetary policymakers prepare for significant rate cuts. In this context, cheaper rates can positively affect bank stocks in several ways: First, I note that capital multiples are generally inversely related to rates. Second, there is supportive interest income, as lower rates reduce interest income risks, as well as stimulate credit demand amid increases in economic activity. Third, lower rates are bullish for Citigroup’s investment banking franchise, boosting activities in ECM, DCM and M&A.
On top of the macro headwind, I note that Citigroup appears determined to materially improve its particular business fundamentals. According to the last COMMENTARY of Citi CFO Mark Mason, the bank is poised for a top-line CAGR of 4-5% over the next 3 years on a declining operating expense base, potentially achieving a 10-11% ROTE by 2026. Thus, C stock certainly looks poised for a multiple revaluation in 2024.
Roblox: Quality of business outweighs valuation concerns for lowest fees
Roblox stands as maybe THE the most exciting growth platform listed on the public markets. Like YouTube, the platform uses an extensive user-generated content model, offering endless creative possibilities to its vast community of developers and users. On that note, Roblox has significant growth prospects in areas such as international expansion, AI and ad monetization, potentially achieving a high CAGR of >20% annual growth over the next few years.
But while Roblox’s growth potential has been well received by many investors, the recent upside has been overshadowed by valuation concerns. Specifically, with 4-5% 10-year Treasury yields it’s very hard to justify an investment in an old growth asset like Roblox — regardless of the quality of the company’s business. Now, with rates set to drop significantly, Roblox implied that 8x 2024 forward EV/Sales should become more manageable for investors. In fact, in 2024, I expect valuation concerns to gradually fade, giving investors room to focus more confidently on the company’s strategy roadmap covering platform internationalization, AI and advertising.
Microsoft: Attractive growth, with well-oriented business model
The argument for Microsoft is very similar to the argument made for Roblox: Lower rates make Microsoft’s rich valuation less risky for investors. However, in contrast to Roblox, Microsoft’s growth outlook is less speculative and more protected by a business model that has outperformed the market for decades. In particular, Microsoft’s growth outlook enjoys strong protection due to several key factors: First and foremost, the software giant’s product portfolio spans multiple sectors, including cloud computing, software, hardware, and services, which mitigate the risks associated with dependence on a single market segment; Second, the company’s strong foundation in the cloud computing arena, particularly with Azure, positions Microsoft favorably amid the accelerated transition to cloud-based solutions; Third, Microsoft is poised to catch up perhaps THE much of the growth in upside enterprise software is expected to be catalyzed by AI, citing the company’s collaboration with ChatGPT and the development of Copilot for Microsoft 365. That said, analyst consensus estimates price in 2024, 2025 and 2026 earnings increase of 14%, 15%. and 18% per year, respectively.
Stellantis: 6.3% dividend yield with growth
Lower rates are driving down yields on fixed income securities, making dividend cash flow from stocks more valuable. In this context, Stellantis stands out as an interesting field. The company is currently COMMERCIAL at a P/E of around 3.5x, with a proud valuation of $24.9 billion net money.
Reflecting on such a cheap valuation, it suggests that Stellantis is facing earnings pressure/risk. But I personally do not agree with this narrative. In my view, Stellantis’ earnings resilience is bolstered by the company’s key economies of scale, evident in its industry-leading fixed cost base, along with an excellent track record of management execution. Furthermore, Stellantis’ revenue stream is largely protected from price wars and margin pressures, mainly driven by its strong SUV, pickup and commercial vehicle segments, which account for the majority of its revenue.
According to my predictions, Stellantis should be very comfortable paying similar dividends in 2023 into 2024 and beyond (4.7 billion dollars, dividend yield 6.3%). In fact, there is likely to be a material upside to current equity distributions, either in the form of dividends or share buybacks. I point out that even without any earnings power, Stellantis’ net cash position would cover about 5 years of dividends. On that note, Stellantis’ well-protected equity yield contrasts attractively with 2024 forward rates of around ~3.5%.
A note on risks
While I maintain a positive outlook for equities heading into FY 2024, it is essential to acknowledge the (general) risks associated with investing in equities, especially given the still uncertain macroeconomic backdrop. In my view, there are three main risk factors that require attention: First, for 2024, there remains a distinct probability of a mild recession in the US, which would affect the earnings of companies including Roblox, Microsoft, Citigroup and Stellantis. Second, fluctuations in particular industries can skew the relative attractiveness of certain stocks, exposing them to sector-related risks. Currently, there may be an overreliance on major tech companies within the S&P 500, potentially exposing Roblox and Microsoft to valuation risk. Second, stocks in general are inherently prone to volatility. This volatility may not match every investor’s emotional tolerance, presenting a challenge for those seeking stability or with a lower risk tolerance. Of the four stocks covered, I see Roblox as the most exposed to volatility, while Stellantis should be the least exposed.
In summary, the anticipated rate cuts set the stage for a promising year for stocks in general, and a select group of stocks more specifically. In this context, I am very bullish on Citigroup, Roblox, Microsoft and Stellantis, all of whom stand out as strong investment candidates, each poised to take advantage of the favorable macro environment in their own unique ways.