Bull Case Holds for 2026 – Lori Calvasina

0:00What was the peak to trough drop recently with the Iran war? 9.1%. So quite small. But look, it was rational. And so, you know, we sort of look at that 9.1%. And that's about what the market should do if you are not putting recession on the table. And as concerned as the geopolitical community has been about this, I do think the market did what it was supposed to do if we're not having a recession or seriously concerned about one. I would say, as we have read through company transcripts, we are really hearing a lot about buffers in terms of inventories, hedges that are in place. And we're also really hearing a lot from companies about their ability to manage through tough times.

0:41And I can't tell you in this last reporting season how many companies I saw referring back to COVID, referring back to tariffs, patting their supply chain teams on the back and saying what a great job they're doing and really projecting a lot of confidence about their ability to manage through. If I just sort of think about a very basic kind of next 12 months S &P 500 PE, that one is sitting on our last update, I think, around 23.6 times. What we saw back in the fall was it was around 28 times. We are not cheap and we never got cheap, you know, with this 9.1 percent drawdown we saw around the war.

1:15I think the lowest number we recorded was maybe around 22. But it's certainly not back to where it was. So we think there's still a little bit of room to run on that basis.

1:27Welcome to the Master Investor Podcast with me, Wilfred Frost, where we celebrate and learn from the success of the greatest investors, business leaders, and politicians in the world, giving you, our listeners, the edge. The Master Investor Podcast is sponsored by LSEG, Interactive Brokers, the World Gold Council, and BNY Investments. Please do remember the views expressed in this podcasts are for general information purposes only. Nothing in the podcast constitutes a financial promotion, investment advice, or a personal recommendation. More on that in the show notes. My guest today is Laurie Calvacina, one of the most respected and closely followed US equity strategists, making her name initially in small caps at companies like Credit Suisse and Citi before broadening her expertise to become head of all US equity strategy at RBC Capital Markets, where she has been since 2017.

2:26Laurie, it is a delight to see you. Welcome to the Master Investor Podcast. Thanks for having me. It's great to see you again. Really good to see you again. And lots to get to. Been a fascinating couple of weeks of bits of data to come out to react to. But my first sort of big picture question to you as an equity strategist I know RBC and you personally with your small cap background you love to pour over every little bit of data that comes out the earnings the numbers but also the call transcripts when you come up with we think the S &P 500 is a buy or a sell is it just the data the hard data do you have to how do you gauge as well the kind of less tangible factors like sentiment and just what you're feeling in your gut?

3:11It's a great question. And I'll say I've been doing equity strategy for, I think, like 25, 26 years. I've been doing this since 2000. Not always head of the team, a peon for many of those years. But, you know, I've thought a lot about it because I think an S &P 500 price target, it gets a lot of attention. It's a very tricky exercise. The answer is all of the above. But I would say where I feel like I'm a little bit different is I do try to lead with the data and rely on the data much more than, say, some of my other competitors. And I think the reason for that, right, is that strategists like anybody else can get sucked into the emotions of the moment, right?

3:47Whether you're at the top looking at euphoria, whether you're at the bottom looking at pessimism. And so I think those numbers, you know, even if you do have to make some adjustments, and I'm making one adjustment right now, which we can talk about, but I think the numbers really force you to think through the math. And I think that process of taking a minute to stop and think through the math and saying, even if it is different this time, how is it? I think that really sort of, you know, kind of grounds you in terms of thinking about forecasting, keeps you from getting too swept up in the emotions.

4:14And just to be clear, when you're talking about the numbers and the math in this regard, it's company earnings, first and foremost, rather than headline macro data. So I would say, you know, if I'm thinking specifically about the price target, And I'm always tweaking it. It's always evolving. It's always updating. But I've settled on sort of a five-pronged approach. And so we have five different models. One of those is looking at investor sentiment. One of those is a pretty simple cross-asset test, looking at stocks relative to bonds, just a simple earnings yield gap analysis. We also do a valuation earnings test where we come up with a projected PE and we put that against a company level sort of earnings outlook.

4:54We have a GDP test and we have a Fed test. The Fed test is actually the newest one that we added this year. But we're trying really with the different models to think about the potential path of the market from a number of different angles, a number of different perspectives that we think are all relevant. Well, I want to get into all of that and the Fed tests being new and with a new Fed chair is definitely something to come to. First, though, you just recently lifted the S &P 500 target you have, 7 ,900. It's one of the most bullish on the street now. You know, I think there have been some new forecasts that have come up and there was one that just came out that's a bit higher than mine.

5:32But I will say we have generally been more on the constructive end of things. Now, we also do a 12-month forward price target that's rolling. We update it once a month. Most strategists, I think, are still doing December 31st type numbers. We made a change to move to that new methodology this year. And we can get in to the reasons for that more. But I do think generally the tone we've had has been a bit more constructive. I've joked recently that I felt a little bit like a lonely bull, also a math nerd. But I have interestingly felt a little bit more pushback than I would have expected. Even before we raised the target, we were at 77.50 before, and that was one of the more constructive numbers even back in January when it was a December 31st type number.

6:15So, and again, we kind of go back to the math, but we can see it from a GDP perspective. We can see it from a valuation earnings perspective. We can also see it from a sentiment perspective. And so it has been interesting to me that we've sort of been getting a little bit of that pushback with what we think has been a more constructive tone. That is very interesting. I guess the other point in my prep for this that kind of struck me, knowing that you're one of the most bullish, is there's not much upside. Yeah. We're talking, what, 10 %? Well, at the time we changed it to 7 ,900, it was like a 7.7 % gain from, I think, the May 7th close, which is when we priced all the models.

6:55And so I was saying in meetings this week, this is not a terribly heroic forecast. We've had further appreciation since then. And I want to say now it's like a little bit less than 6 % appreciation. We have said there's some upside risk to our numbers because we're not taking the exact median. We're taking, you know, sort of the second lowest of the models. And again, we can sort of talk about that in more detail. But it's, you know, it's interesting, again, kind of getting the pushback for perhaps, you know, people think we're being a little too optimistic when it doesn't feel like a highly optimistic forecast.

7:26So that's interesting. Of those five factors you've outlined, five models, which gives you the most bullish outcome and which is the most cautious? So basically our Fed model and our cross-asset model are giving us the two most optimistic numbers right now. And they're kind of, at the time we priced it, sort of in the 8 ,300, 8 ,400 range, looking for about, you know, kind of 13 to 14 percent type returns. I'll tell you that cross-asset model has actually been the most accurate the last couple of years. The one in the middle is the sentiment model, looking at AAII net bulls. That's looking for about a 10.8 percent gain on a 12-month forward basis.

8:00Then our valuation and earnings test, which is what we're sort of syncing up to right now. I think that one came out to 79.29, which we rounded to 7 ,900. And then our GDP test, which is looking at how much stocks tend to gain in basically a 1.1 to 2 % GDP range year over year. It's about a 5.7 % return, which actually is in line with our old target of 77.50. I'm really interested where, so sentiment is where exactly now? Because we, you know, since March the 30th or March 31st, we've ripped higher. Yeah. So basically what we're seeing on the model, and honestly, partially why I didn't go with the median and average this time around, I do feel like this model might be about to shift into a new zone.

8:44But where it is right now, it's basically between average and one standard deviation below the average. If you look at AAII net bulls. And we look at, you know, the entire history of that data series, you know, to sort of gauge the average and standard deviation levels. But we're basically, you know, kind of sitting at neutral type sentiment. We've seen a big rebound from deep bearishness, but not really into euphoric territory. And we are really, really close to that average. So I have a feeling fairly soon, it's going to kind of bump up into another return range. Right now where it's sitting, you know, it's sort of still bearish enough to be signaling a 10.8 % return over the next 12 months.

9:19It's a contrarian model. You know, you see worse returns when everybody's feeling euphoric and better returns when people are feeling pretty pessimistic. And so it's kind of made this round trip. It had gotten down between minus one and minus two standard deviations below the average. The worst week in March, I think it was around minus 21.9 % in favor of the bears. Now, that's not, you know, in line with what we saw with tariffs. That's not in line with what we saw in the great financial crisis. You know, I think even back in 2022, we were getting down to like minus 40 % or worse, right? So this wasn't, you know, everybody's just running for the hills, putting their money under the mattress, but it was a deeply, you know, kind of bearish type number.

10:02And so is a similar kind of percentage score to the upside when you'd start to then get much more cautious? When we went back, you know, in terms of those lows, it was actually sending a 15 % a positive signal going forward. It never actually turns negative when you're on the upside, you know, when everybody's kind of euphoric on the other side, but you do tend to see kind of flattish returns, more depressed returns. And so, you know, when you get up to that two standard deviation above the long-term average type number, you know you're in store for some sort of shorter term, you know, pretty severe type pullback.

10:37We haven't had a lot of those, but it does tell you to sort of gear up and kind of look for flattish returns over the next 12 months. When we dive in more specifically to the company's numbers, obviously had quite a lot of the earnings for Q1, including most recently, the big tech names, some still to come. What's your assessment there of how much earnings are rising? So it's really interesting. You know, we sort of talk about earnings, kind of the fast lane and the slow lane. And the fast lane is everything AI related and the slow lane we think is going to be everything else. And that's something we tried to sort of, you know, kind of put in this latest forecast when we were thinking about the earnings outlook.

11:15I have one chart in my marketing deck, and I've been seeing clients this week, and this is one of the go-tos we have. But we basically look at the 2026 consensus numbers, and there's a little grid. And we basically show which sectors have above S &P level growth rates expected for the full year, and also where have they been rising since the beginning of reporting season. It's energy, materials, and tech. So it's your inflation-sensitive commodity sectors, and then the tech sector, which is really a function of the AI trade. Everything else, you're seeing below S &P-type levels of growth rates.

11:51Most things have been flat. You haven't seen too much movement on the 2026 numbers. ComServices is one exception to that. It's still a little bit below the S &P, but has moved up a little bit. But generally, it's sort of these AI inflation stories versus everything else. And you're just seeing tremendous excitement on, you know, kind of one quadrant of this grid and everything else just looks really sleepy. So do you think people are missing the scale of, for the AI fast lane companies, at least, people are missing the scale of those upgrades? I think that what's happening is if I, you know, and I spend a lot of my time talking to investors, especially on the long only side, stock pickers.

12:28I think the stock picking community is pretty aware of what's happening. They may not have the exact right contours. You know, these charts that we're showing people are pretty revealing, but it kind of fits with what they're hearing, right? When they're reading through earnings calls, looking through the companies they own. I'm finding when I'm talking to more kind of top-down macro folks, what I think they're doing is listening to, you know, sort of the geopolitical community and all the concerns that are coming out of the Middle East. And even frankly, you know, just the idea that things have been broken are going to take a while to be fixed, right?

12:58That we're going to be dealing with some longer-term ramifications in energy and commodity markets. I think what's happening is that people who don't understand the bottom-up composition of S &P earnings that well are looking at all that commentary about the Middle East and saying, well, this has got to take the earnings numbers in the U.S. down. And it's not that they're wrong. It's just that for this AI part of the market, it doesn't really impact it all that much, if at all. And the other part of the market, you know, we are baking in some downward revisions to consensus numbers there. But I would say, as we have read through company transcripts, we are really hearing a lot about buffers in terms of inventories, hedges that are in place.

13:36And we're also really hearing a lot from companies about their ability to manage through tough times. And I can't tell you in this last reporting season how many companies I saw referring back to COVID, referring back to tariffs, patting their supply chain teams on the back and saying what a great job they're doing and really projecting a lot of confidence about their ability to manage through. That does not mean those buffers are going to last forever. It does not mean that, you know, damage, you know, in terms of things like higher freight costs or difficulty finding certain commodities doesn't mean it's not going to pinch at some point.

14:06But I do think generally, we've got some insulation on 2026 earnings, even in that impacted cohort, where the risks are probably lying are more in 2027, when some of those buffers run out. It's really interesting. I think big corporate America has learned some of the supply chain lessons from from covid and russia ukraine i'm not sure actually that's the case for for a lot of europe which is going to be interesting how things play out in the next few months as these uh straight-up form these pressures hits or not

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15:28I want to come back to the 2027 pressures in a second. Just first though, those sectors that you like that are part of the AI fast lane, tech, energy, materials, what are we looking at at the headline valuation multiples? So, you know, when we go through and we look at, you know, the different multiples on the sectors, we tend to do equal weighted analysis when we're looking at those as opposed to market cap weighted analysis, right? Because, you know, Yes, things are market cap weighted in terms of performance. But if you try to run valuation multiples, every sector's got some big chunky company that's going to throw off all your data.

16:00What we're seeing if we look at technology, and we are actually neutral on that sector. We tend to think about these things from kind of an equal weighted perspective. The semis look very expensive. Now, they have fantastic earnings revision trends that are sort of sitting up around past peaks. If I look at software, we've all obviously got just very cheap valuations. the earnings revisions are actually hanging in. So overall with tech, I'm seeing a very, very strong earnings revision profile, but I'm seeing kind of slightly expensive valuations because of some of these, you know, just really kind of pushing all of that up.

16:32I would say, as I look to something like materials, which were actually overweight, we see, you know, kind of more valuation appeal in that sector. We see less valuation pressure. You know, we're seeing earnings revisions have been challenged in certain areas like chemicals, but we are seeing, a lot of strength in things like metals and mining. And energy is one, I'll tell you, we've talked about this one a lot this week, which is surprising in Europe. But energy is a sector that we're neutral. We tend to not like to chase sort of geopolitical headlines with that sector, which does feel like it drives a lot of the price action.

17:04But what I've been highlighting to people is that it is a very reasonably valued sector. And even though it has been a very strong outperformer kind of throughout this first part of the year, I know it's post-ceasefire, It hasn't done as well. But the valuations never got expensive. It's still a slightly attractive sector on a valuation basis. You've got really nice earnings revision trends. You've got very reasonable valuations sort of throughout the two major groups within it. We like to see that breadth when we look at a group. So this is one that we feel like investors have ignored for a very long time, and they're actually interested in talking about it again.

17:42And so obviously those are the attractive sectors. What about the S &P 500 overall on your numbers? What multiple are we talking about? And where does that sit in the historic range? So it's going to depend on which model we're looking at. You know, I always describe myself as a math nerd. So we have a few different versions. Nerds are very welcome on this podcast. It's celebrated, in fact. Good. I mean, this is definitely one business where the nerds are celebrated a little bit more than we were in, say, high school or elementary school. But no, I think if I just sort of think about a very basic kind of next 12 months S &P 500 PE, this is one of the charts we have in our deck.

18:17And I think it's been a useful one for navigating the last, I would say, six to nine months. That one is sitting on our last update, I think, around 23.6 times. Now, it's a bottom-up calculation. It's market cap weighted. We write some rules to kick out crazy, nonsensical multiples, loss makers, that kind of thing. I'm an old small cap strategist, so we really do clean up the data a bit. But what we saw back in the fall was it was around 28 times. And 28 times was in line with the highs around COVID. And that was really when all the angst around, you know, I called it sort of the AI jitters that morphed into AI fears.

18:52We saw private credit, you know, really sort of emerge as something investors were quite worried about. But we were basically sitting at peak valuations last August. We are not cheap and we never got cheap, you know, with this 9.1 % drawdown we saw around the war. I think the lowest number we recorded was maybe around 22. Maybe it got a little bit low. Actually, I think around 21. So it did come back down a bit. But it's rebounded. It's not cheap. It's not as reasonable as it was. But it's certainly not back to where it was. So we think there's still a little bit of room to run on that basis. But it's so interesting that because for someone that has one of the most bullish numbers on the street, to come back to that, if we're at 23-ish times and the really strict October I was 27, 28 times, it's showing why your price target's only upside of 5%, 6%.

19:43I mean, you're playing quite a lot of risk against the reward proposition at the moment. You're threading a needle a little bit. And so we have a different model that we use in our price target calculation. Unfortunately for your listeners, going to have to nerd out a little bit more. No, no, no. They'll welcome it. And I'll tell you, I built this model in the summer of 2022 when I was still working from home. And I think I spent that summer, you know, sort of researching macro variables that drive PE multiples. If you can imagine Lori sitting down in her basement away, you know, from the children and all that kind of thing, you know, just literally falling down a rabbit hole trying to solve the PE puzzle, that was me.

20:22But basically, we came up with this model, and we use an average trailing S &P 500 time series that we have that goes all the way back to the 30s. This particular model, we started in the 60s, because that's when our 10-year treasury yield data started. But I basically did all this backtesting and figured out that if you look at 10-year yields, Fed funds, effective rate up until when they announced things and then announced data point thereafter, and then inflation. And you could pick PCE or CPI. We're using CPI right now. Basically, take inflation, take the Fed, take interest rates. We built a little regression model that does a very good job of predicting where the PE should be based on whatever inputs you put in for those different variables.

21:04So we've looked ahead to 1Q27 and said, OK, let's put in 3.3 percent CPI. That's in line with the stress test my economist did around oil that stays above$100 for an extended period of time. We kept the Fed flat. So we're not going to get any cuts in our assumptions. And we took 10-year Treasury yields up to 4.5%, which we didn't expect to already be close to that right now. We might need to stress that a little more in the future. But this was basically sort of our stress test for higher inflation because of the situation in Iran. And so that produced a trailing P.E. of about 24.11. And that is actually so projected for 1Q27.

21:44And that is actually down a bit from the highs that we've been seeing on that particular time series, which has been consistently up around 27, 28. So that's giving us maybe a little bit of a higher P.E. than most people would assume. It's trailing. It's not forward. It's based on all this data going back to the 60s. So remember, we're baking in lessons from an extremely higher inflation environment, an extremely higher interest rate environment. But it's giving us this P.E. that's getting knocked down a couple pegs. And then we're marrying that up with some earnings assumptions. And that's how we get our 7 ,900.

22:16And if, I know you don't have the model open in front of you, but if we did have, you know, a 10-year that was not going to go to 5 % probably, but was more like 4.7, not the 4.45 we're at now, and or a 25 basis point rate hike, would that collapse the P multiple you'd expect? And, you know, I ask in light of, because the PPI data that we've just had, obviously coming in quite hot on the inflation front, and we're all waiting to see the extent to which the war does push up these things. So, you know, I've got my deck with me. I don't usually use props, but I'm getting a little too old to remember quite all these numbers.

22:55But we did actually, we call it higher oil scenario number three. Everything I just gave you was higher oil scenario number one. I'm not very creative with my titles. But in the scenario Trail number three, I took inflation from 3.3 to 3.8. I took, I added in two hikes. And then I took 10-year yields from 4.5 % up to 5%. And that took my multiple down from 24.11 down to 22.71. On the same earnings number, which is 3.29, we can talk more about how we get to that 3.29. But it took the fair value estimate for the S &P from 79.29 down to 74.68. Now, if I - It's not much of an adjustment. It's not huge.

23:33Now, if I also worsen earnings, and so what I, the 329 I just gave you was a 5 % haircut to earnings. So just take the consensus. So just taking the consensus down by 5%. Let's say I just cut earnings by 5%, right? Just take them actually down on a year-over-year basis by 5%. 6326 on that higher oil scenario, number three. So, you know, we can work through these numbers. And I know 6300 doesn't sound so good. but I do think there is comfort in working through the numbers and understanding if things really do get bad where could we go I like having that information ahead of time for sure and I guess that brings on to another topic which is the extent to which you know you might have the AI fast lane companies but we might see a significant fall off in demand if the economy really weakens and I guess your base case and RBC's base case is that that doesn't happen enough to lower those earnings forecasts.

24:35Right. And I would say, you know, I leave all the economic forecasting to Francis Donald, Mike Reed, and kind of our US and Canadian economics team. But they have based, they said something, I think it was on the CPI report, not the PPI report, but they said something in their recap that basically, as long as consumers have jobs, they will continue to spend, right? The composition of the spend we know will change. You know, we have gotten an earful from consumer companies, right, about value consciousness, fewer items in the basket, less snacking. That's always sort of one of my favorites. So we know consumers respond.