Exhibit 1 shows the status of the latest regional 12M PE ratios and how they compare with both the recent July 2023 levels and, more importantly, against their respective peak levels attained in 2021. For instance, the US market PE currently stands at 18.2x valuation compared with a level of 20x in July and a peak of 24.5x in 2021. The PE has therefore contracted by a quarter (25.5%) from the peak. Chinese equity PE valuation has declined by 40% over the same period.
Exhibit 1: The status of regional PE valuations v recent peak levels
However, it is important to gauge the quality of the PE shift by assessing the move in both the 'P' and the 'E'
There can be both good and bad PE shifts. To assess the quality of the valuation shift it is necessary to decompose the PE into its two key components - measuring the change of the 'P' (the index level) against the change in the 'E' (12M EPS forecast) used in the valuation measure over a period. Exhibit 2 compares the dynamics of the US PE decline of 25.5% since the 2021 peak with the 29.5% decline witnessed by the Would ex US index. Over the period the US index's return (P) has been basically flat while the EPS (E) has appreciated 35%. The PE derating has consequently been driven entirely by the positive EPS contribution. By contrast, the World ex US index PE decline of 29.5% was a function of both the index (P) declining by -17.5% and the 'E' only rising by 17% (half the US rate). This is a less optimal PE shift blend compared with the US market.
Exhibit 2: The US de-rating has had a superior 'P' and 'E' profile since 2021 v non-US equities
Can the US continue to rely on superior EPS growth to deliver a continued benign de-rating?
Exhibit 3 shows the largest sector contributors to the 2024 consensus EPS growth forecasts for the US and the World ex US. It shows that although there is similar aggregate 2024 growth forecast for both regions (+13.9% for the US & +13.3% for the World ex US), the US forecast is highly dependent the significant EPS contributions from the two tech sectors unlike non- US equities.
The Magnificent 7 concentration risk resides in the EPS growth delivery rather than the performance impact.
Exhibit 3: Sector contributions to 2024 aggregate EPS growth projections
Source: Wilshire Indexes, FactSet and Refinitiv. Data as of October 18, 2023
