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Thursday, March 28, 2024

Omega Advisors Still Bullish; Shrugs Off China Fears

By Guest Post. Originally published at ValueWalk.

The bulk of Leon Cooperman‘s Omega Advisors’ assets under management are in US equities, and the fund is extremely bullish on the outlook for equities in the near-term, according to a letter to investors reviewed by ValueWalk.

Omega doesn’t believe that the market as a whole is overvalued at present levels, there are pockets of value to be found, and, as a result, it is a stock-pickers market. While the current bull market is one of the longest in during of all the post-war bull markets, Omega Advisors observes that bull markets do not die of old age. The end of a bull market is usually brought about by excess.

And Omega believes that the market will head higher for the foreseeable future. Specifically, Omega’s predictions call for the market to deliver a high single-digit total return of between 7% and 9% — consisting of earnings growth of between 5% and 7% and a dividend yield of 2% — over the coming year. Moreover, Omega is telling clients that it believes the current S&P 500 P/E of approximately 16.5x forward earnings is “about right” and does not signal excess. As a result, the fund believes that the US equity bull market can last a while longer than the next twelve months.

[Note: As I reported in a previous article while Omega believes that the market has not entered a period of excess, the fund is advising investors that they should only take positions in companies that can achieve higher than average rates of earnings growth. Investors should no longer bank on multiple expansion to drive stock appreciation.]

Omega Advisors: The magnificent seven

Omega Advisors’ constructive view of US shares and their outlook is based on seven factors, which the fund has branded the “magnificent seven”. They are:

  1. The US economic expansion should last for several more years, bringing with it an extended period of earnings and dividend growth
  2. Economic growth should hit a “sweet-spot”; real growth of between 2% and 3%, sufficient to underpin moderate earnings growth but not so rapid as to frighten the Federal Reserve or the bond market
  3. Inflation hits a “sweet-spot” inflation of between 1.5% and 2.5%. Once again enough to give a moderate lift to corporate sales growth but not frighten credit markets
  4. A slow and gradual tightening by the Federal Reserve
  5. Monetary policy that does not become hostile to risk assets or economic activity
  6. Investor sentiment and positioning that is not at all consistent with the end of a bull market; the current in-place equity bull market continues to face a wall of worry. [As reported previously, Omega sees a “wall of worry” currently overhanging the market. This “wall” is made up of many factors including Greece, China equity market volatility and the timing of first Federal Reserve rate hike]
  7. U.S. equity market valuation that is not currently excessive and/or speculative.
Omega 4 Omega Advisors

Omega Advisors: The magic seven

Omega Advisors: Economic strength

Omega Advisors uses the rest of its second quarter letter to investors to present the evidence that backs up its “magnificent seven” factors. To start, Omega presents a run-down of the US economy.

One of the strongest supporting arguments for further economic growth is the balance sheet of the US consumer. The household debt service ratio is at its lowest level in more than three decades and household net worth has never been greater. Moreover, Omega notes:

  • Labor income is strong, the leading indicators of employment are positive and labor market indicators are not at all suggestive of a recession.
  • Wage inflation has barely accelerated, and recessions do not typically begin in the U.S. until three to five years after noteworthy wage acceleration begins
  • Economy-wide inflation usually accelerates prior to the arrival of U.S. recession Currently there is no such acceleration in inflation.
  • Lower oil prices have typically been followed by better economic growth.
Omega 5

Omega Advisors: The improving consumer balance sheet

On the corporate side, Omega Advisors’ data shows that the corporate sector’s balance sheet is healthy, the economy-wide corporate profit margin and return on equity are very high relative to the cost of debt and the conversion of earnings to cash flow is strong. Additionally, according to historic trends, non-financial domestic profits tend to peak roughly two years before the arrival of recessions. These profits are still advancing.

Omega 6

Omega Advisors: Market valuation

Along with Omega’s view on the economy, the fund is positive on the US equity market’s current valuation. This has been a topic of discussion for some time. There’s a widespread belief that as this bull market is now over 50 months, a correction is on the horizon. As Omega notes, “A number of absolute measures of valuation are above their long-term averages and this has caused caution among a broad set of investors.

Omega then lays out its view as to why the US equity market still has further to run and should not be sold just yet:

We are not of the opinion that current equity market valuation will deter or derail the in-place U.S. equity bull market. There are several reasons for believing this.

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