DAVID KOSTIN AND TONY PASQUARIELLO PODCAST

DAVID KOSTIN AND TONY PASQUARIELLO PODCAST

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JAKE SIEWERT This is Exchanges at Goldman Sachs where we discuss developments currently shaping markets, industries and the global economy. I'm Jake Siewert, Global Head of Corporate Communications here at the firm.

Today we'll be talking with David Kostin about what's ahead for US equities in 2020.

But before that, we're going to get a quick markets update from Tony Pasquariello of the Goldman Sachs Securities Division, who's watching five key numbers in markets right now.

TONY PASQUARIELLO Hey, Jake. Thank you, glad to be with you today. My name's Tony Pasquariello, I'm the Global Head of Hedge Fund Coverage for the securities division

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at Goldman Sachs, and the big number I'm looking at right now is 31 percent. That was the total return of the S&P 500 in 2019, which was the best year since 2013, and a 93rd percentile outcome on a longer-term historical basis.

Now, against the expectations of most people coming out of a very rocky end to 2018, last year wound up being a truly superb year for the stock market, as well as most every other major asset class. Witnessed strong returns in emerging markets, the credit markets, as well as select commodities like oil and gold. So in the end, 2019 played out as one of the highest quality years in the history of financial markets, and U.S. equities are once again one of the very best horses in the race.

By the way, in the last eight years, where S&P was up 20 percent or more, the market was higher in the subsequent year in all eight occurrences, for a

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median return of 17 percent. TONY PASQUARIELLO

So a number that's getting attention right now, but doesn't necessarily tell us what we need to know, is the PE multiple on the S&P 500. So that number started last year at 14.4, and ended last year at 18.8. For historical context, 18.8 is in the 90th percentile of the past 43 years. So that number is rightly getting attention, and I think you have to be respectful of the history book, and what current levels suggest about future returns.

TONY PASQUARIELLO That said, I don't think it tells us everything we need to know because when you look at the bond market and the very low level of yield that's available today on a global basis, I think it changes the implication. So another number that we follow is the spread between the earnings yield of S&P 500 and 10-year note yields, also known as the

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equity risk premium. That current spread is around 500 basis points, compared to a historical spread of 370 basis points, suggesting that stocks remain attractive when compared to bonds.

TONY PASQUARIELLO Now I'm going to move on to my third number; again, sticking with the relationship between stocks and bonds for a moment, a number that has not moved a lot, but in doing so has actually caught my eye, is the 1.5 percent yield on the 2-year note. My observation here is that a lot of things are going right for risk assets right now. The global economy is expected to pick up speed in 2020, the binary event risk around the U.K. election and the U.S./China trade war has broken in a favorable direction, and again, risk assets have a lot of positive momentum now.

Despite all of that, the front end of the U.S. interest

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rate curve isn't moving. That 1.56 2-year note yield I mentioned has barely budged in the past two months, which I think is a function of the Fed telling us that they're committed to keeping the funds rate anchored at a very low level. In real terms, the funds rate is actually negative right now, and I think that's, on net, a bullish underpinning for risk assets in the year ahead.

TONY PASQUARIELLO Number four, the number that I'm thinking about for the future is 1.445 trillion. That's the wedge between how much money has flowed into fixed income funds and into money market funds versus how much has flowed out of equity funds in 2019.

Below the surface, last year saw 572 billion flow into money markets, that was a record; another 644 billion flow into fixed income funds, that's also a record; against that, 229 billion flowed out of

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equities. That was a near record, eclipsed only by the bad old days of 2008. Again, despite the fact that U.S. stocks sit at all-time highs as we speak, and despite the fact that bond yields are significantly lower today than they were in late 2018, last year saw a very clear trend of money moving out of stocks and into the bond market. So we're spending a lot of time thinking about whether 2020 sees some reversion of that money flow to the benefit of equity funds.

TONY PASQUARIELLO Finally, a number that I'm thinking about outside the office is 781, or .781. That was the winning percentage of my beloved New England Patriots during the decade that just ended, which was the best of any major professional sports franchise in the U.S. After 781, the next best on the list was the San Antonio Spurs at 698; the Pittsburgh Penguins at 646; and the Golden State Warriors at 645.

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JAKE SIEWERT

Thanks, Tony. Now onto the next segment of the episode with David Kostin, the firm's chief US equity strategist, who's here to talk through his team's 2020 stock market forecasts.

David, welcome to the program. DAVID KOSTIN

Thank you. JAKE SIEWERT

So let's get right to it and put some numbers on stock market projections for 2020. What is your estimate for the S&P500 by year end 2020?

DAVID KOSTIN Three thousand four hundred.

JAKE SIEWERT And what would that represent?

DAVID KOSTIN That would represent about a six percent return from the current level of about 3,200.

JAKE SIEWERT Okay. And how much will the US economy GDP

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grow in 2020? DAVID KOSTIN

On average the US economy will grow at about 2.3 percent for 2020. And that is pretty much in line with the average annual growth for the last 10 years.

JAKE SIEWERT All right. So the average S&P profit margin next year?

DAVID KOSTIN About 10.8 percent which is up just slightly from the current level.

JAKE SIEWERT Okay. And will US equities enter a bear market in the coming year?

DAVID KOSTIN Do not expect that you will have a 20 percent decline. I expect the market will rise modestly at the beginning of the year to around 3,250. And then bounce around for a good part of the year

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