It is no secret as 2018 kicks into gear that stocks are in the midst of a raging bull market. In fact, this bull market will turn nine years old in March of 2018, and it has been the most powerful bull market most Americans have ever seen. The continued strong gains in 2017 of 25% on the Dow Jones Industrial Average (DJIA) and almost 19.5% on the S&P 500 acted as a cornerstone of this bull market’s strength and resilience. Investors also should not ignore that the major stock indexes outperformed every single large brokerage firm’s Wall Street strategist expectations by a wide margin in 2017.
Now investors have to decide how they will invest their funds in 2018. Even with the strength that was seen over the course of 2017, and considering even more strength heading into the passage of tax reform, most strategists are again calling for upside in the broad stock market indexes for the coming year.
24/7 Wall St. makes annual forecasts on the Dow Jones Industrial Average each year. Some years the forecast is quite close, but like most forecasting tools the outcome is different from what was originally expected. Our expected 8.4% gain in the Dow suggested 21,422 in 2017 — far short of the 25% gain to 24,719.22 at year’s end.
Be advised that the “target” is used more as a forecasting judgment about how the overall market trends are looking rather than an actual line in the sand. It is also important to understand that this forecasting barometer changes quite handily over time. Each earnings season and changes around key financial market events over the course of a year can greatly add or subtract to the forecast.
The end of 2016 into 2017 had already brought on a great post-election gain, and the market did end up surprising on the upside and then some against the late-2016 belief by the financial media and market forecasters that stocks would not continue to rally in a straight line all year.
Stocks have continued to impress all through the last year, and in October when the Dow went above 23,000 the forecasting tool pointed toward 25,000 a year out. And in January, the Dow is already flirting with 25,000. The reasons for the continued market gains are accelerated earnings for companies, accelerated higher gross domestic product (GDP) growth expectations for 2018, and also how corporations will be treated under tax reform.
The S&P 500, a broader and more fairly calculated index than the Dow, was valued at roughly 17 times forward earnings at the end of 2016. That was a higher valuation than most investors would have preferred at the time, but at the end of 2017 the forward valuation was 18.5 (Yardeni Research) to 19 (S&P) times expected earnings per share. While that is not at all a cheap valuation by historical standards, it is certainly not in the bubble territory that has been seen in the past 20 years either.
As 2018 started off, the average (mean) Dow dividend yield was 2.38% and the median dividend yield was 2.16%. At the start of 2017, that average Dow dividend yield was 2.65%, so even the dividend hikes have not been able to keep up with share prices and higher valuations. There were also seven Dow stocks with higher share prices than the consensus analyst price targets at the start of 2018 (not including dividends), versus eight Dow stocks under their analyst consensus price targets at the start of 2017. Also at the start of 2018, the average upside of almost 4.4% to consensus analyst upside would create an expected total return of roughly 6.75% for 2018.
If the Dow closed out 2017 at 24,719 and the expected upside is 6.75%, then the preliminary 2018 DJIA forecast would be 26,387 — or call it 26,400 for rounding purposes. The DJIA is known to be a unique index due to share price weightings rather than adjusted market capitalization weightings like the S&P 500 and most other indexes.
If we imply that same 6.75% approximate target for the S&P 500, then the 2,673.61 close at the end of 2017 would imply a 2018 target of 2,854.07 — or 2,855 for rounding purposes. Most Wall Street strategists have raised their S&P 500 targets to be closer to a range of 2,800 to 3,000 at the end of 2018.
One more issue that prevents this forecasting tool from being used as a hard line in the sand is that the calculations do not take dividend increases and stock buybacks into account. There were over $100 billion in new buybacks announced at the end of 2017 alone, and it is no secret that corporate tax reform will allow companies to boost their dividends even further and to buy back even more shares in the year (or years) ahead.
Before thinking that 2018 is a blue skies ahead year without any risks, that may not be the case. 24/7 Wall St. released its 10 things that could wreck the bull market in 2018, and we have outlined low volatility strategies for equity investors who want upside from the markets but who want some insulation against any major correction. That being said, the worst Dow stocks of 2017 could have upside in 2018 if they manage their fortunes properly.
Here is a consensus forecast of each of the 30 DJIA stocks, noting the 2017 closing price, the Thomson Reuters forward 12-month consensus analyst price target, a dividend yield and an expected 2018 total return on each.
3M: Did 3M Rally Into Overvalued Stance?
3M Co. (NYSE: MMM) was expected to generate a total return of almost 6% in 2017 but returned more than 31%. The conglomerate closed out 2017 at $235.37, but the $223.08 target implies a simple price change of −5.22%. With a 2.00% dividend yield that would imply a total return of −3.22% in 2018. Is 3M really overvalued, or will analysts play catch-up on their price targets into and after earnings season?