Valuations

The news flow is rapid again this week with markets focused on tariff policy, earnings valuations, and (especially yesterday) the independence of the Federal Reserve. Any of those topics can and do take up lots of time so in the spirit of brevity let’s spend a few minutes looking at valuations – maybe that’s the simplest one.

Most publicly-traded companies offer quarterly reports to market participants explaining how their business has been doing and what their outlook is for the coming quarters. The data is supposed to be accurate and executives typically have a conference call with analysts and journalists to explain the numbers and answer questions. Analysts compare what they learn against their own assumptions and try to determine a fair price to pay for a share of the company’s stock. This valuation process is imprecise and a moving target but is also a foundational part of the stock market.

You can imagine how important assumptions about the economy and markets are for these calculations, and how much harder it is to do this sort of analysis as the range of potential outcomes widens. Still, the process is helpful to get a sense of how decision makers handle uncertainty in the real world.

A good example of this is United Airlines. The company made news (at least in my industry) last week when it gave market analysts a bimodal set of earnings per share expectations for this year, a baseline scenario where the economy slows but remains stable and United earns around $11.50 to $13.50 per share (maybe call it a pre-Liberation Day outlook) and a recessionary scenario where the company earns $7 to $9 per share.

While it’s prudent and necessary to plan for multiple outcomes as a business, it’s rare for companies to give markets such a wide range of potential earnings based on divergent scenarios. The range might typically be 50 cents, for example, and they usually don’t game out two distinct paths for analysts. They did so because “a single consensus no longer exists” for the direction of our economy. Think about that. Currently United stock is priced by the market for earnings growth in the stable economy range and higher in 2026. Is that fair based on current risks to the outlook? Which outlook are we even talking about?

That’s not to pick on United; I fly them frequently and I also like the stock. Instead, it’s a good example of how people in boardrooms are planning, and have to plan, amid a ton of uncertainty. Extrapolate that across the thousands of companies that make up the stock market. It helps explain why stocks rebounded from recent lows but not all the way back to highs from mid-February and seem to be tapering off in recent days. Companies everywhere are settling in for a grind that may not be entirely priced into stocks right now. And investors are trying to absorb that as the news keeps changing.

Here are some notes on this valuation issue from JPMorgan yesterday morning. I’ll try to summarize at the end.

Markets are forward looking, but earnings estimates don’t have to be. Currently, consensus is projecting 1Q25 and FY25 year-over-year EPS growth of 7.1% and 10.0%, respectively. Relative to 10-year medians of 4.4% and 3.1%, both estimates are strong. Unfortunately, they’re based on economic assumptions that no longer hold. Tariffs will slow growth, increase inflation and undermine confidence. Weaker demand will hurt revenues, higher costs will hurt margins and reduced profitability will hurt buybacks. Even if the administration changes its mind, the longer uncertainty remains, the longer spending slumps, and the greater the hit to growth. Equity analysts aren’t immune to this uncertainty. Rather than bouncing estimates around with tariffs, current numbers are effectively pre-policy. As this week’s chart shows, downward revisions to 2025 EPS estimates aren’t any larger than normal. Since January, consensus has dropped 2.5% compared to the 10-year average of 2.6%. As policy clarifies, there’s a risk EPS estimates could hit the ground hard, catapulting valuations. Early impacts of tariffs are showing up in other ways. Retail sales spiked 1.4% in March, the largest m/m increase in over two years, driven by 5.3% growth in auto sales as consumers front-run tariffs. Moreover, 44 companies have reported earnings so far, and tariffs have been mentioned 239 times. Many management teams, however, are pausing guidance until policy clarifies. For now, the range of outcomes is wide, and the impacts are difficult to predict. Companies’ ability to hold the line will depend on their individual supply chains, pricing power and balance sheets, to name a few. In times like these, first principles are paramount: quality, diversification and a long-term perspective.

In other words, the stock market may still not have found a bottom assuming a recessionary scenario.

Assuming so, it’s entirely reasonably to ask whether we should sell everything, hang out in cash for some months, and come back when the waters are calmer. That could work and make you feel better in the near term. The problem is determining when to get back in – that’s the far harder question. Markets tend to stay volatile for a while and rise amid the volatility, often unexpectedly. If you waited until things were “calm” you’d likely miss most or all of the upswing, locking in your losses and making it that much harder to recover from this downturn.

Instead, focus on the structure of your portfolio. Rebalance from cash into stocks as prices fall. This can be new cash you add each pay period to your retirement accounts at work. Or it could be cash within your portfolio. Cash can also come from selling bonds since short- and medium-term bonds have held up well in recent months.

And remember that you can rebalance within your stock allocation as well. Maybe it’s taking from foreign stocks and giving to US small cap or maybe a favorite sector fund that’s of good quality but has been getting its teeth kicked in lately. You’ll only know perfect timing in hindsight, so look to your portfolio as a guide for what to rebalance and when instead of whatever the talking heads are saying on your screens.

Those are examples of investing processes that we have control over, the first principles thinking referenced by JPMorgan. Triple down on that during bad markets to set yourself up for success later.

Have questions? Ask us. We can help.