2018 Global Market Outlook Press Briefing U.S. EQUITIES Ann M. Holcomb, CFA Portfolio Manager November 14, 2017 FOR 2018 GLOBAL MARKET OUTLOOK PRESS BRIEFING. PROVIDED TO DESIGNATED MEMBERS OF THE PRESS ONLY, NOT FOR FURTHER DISTRIBUTION.
U.S. Equities: Summary ENVIRONMENT Stocks overcame short-term pullbacks in their 8+ year climb Volatility and correlations are at historic lows Growth outperformed value across market caps in 2017 Late-cycle economy, but recession risks remain minimal Valuations are full LOOKING AHEAD View is cautious no real catalyst in sight for a risk-off environment, but valuations are elevated across asset classes In our view, moderately rising short-term interest rates should not impede U.S. equity returns Information technology and health care outperformed in 2017 (for period ending Sept. 30), but we believe their valuations remain attractive Earnings growth could resume in 2017 Estimates are high upside surprises will be hard to achieve 2
Index Level The U.S. Bull Market S&P 500 TOTAL RETURN INDEX January 1, 2000, to September 30, 2017 5,000 S&P 500 Index % Gain +/- +346% 4,888 September 30, 2017 P/E (forward) = 17.8x 4,000 3,000 2,107 March 24, 2000 P/E (forward) = 27.2x +121% 2,447 October 9, 2007 P/E (forward) = 15.8x 2,000 1,000-47% 1,109 October 9, 2002 P/E (forward) = 14.9x -55% 1,095 March 9, 2009 P/E (forward) = 10.3x 0 2000 2002 2004 2006 2008 2010 2012 2014 2016 S&P 500 Valuation Measures Sep. 30, 2017 Sep. 30, 2016 3-Yr. Avg. 5-Yr. Avg. 10-Yr. Avg. Price to Earnings (P/E Forward) 17.8x 16.6x 16.6x 15.6x 14.1x Price to Book (P/B) 3.0x 2.6x 2.6x 2.5x 2.2x Dividend Yield 2.1% 2.2% 2.2% 2.2% 2.3% Past performance is not a reliable indicator of future performance. The S&P 500 is made up of primarily large-capitalization companies that represent a broad spectrum of the U.S. economy and a substantial part of the U.S. stock market s total capitalization. Sources: Standard & Poor s and FactSet; data analysis by T, Rowe Price. 3
Index Level Correlation Volatility and Correlation at Low Levels CBOE MARKET VOLATILITY INDEX January 1990 September 2017 70 60 VIX Average INTRA-STOCK CORRELATIONS 1 IN THE S&P 500 INDEX December 1990 June 2017 0.45 0.40 50 40 0.35 0.30 0.25 30 0.20 20 10 0 1990 1995 2000 2005 2010 2015 0.15 0.10 9.51 0.05 0.06 90 Day Correlation Average 0.00 1990 1995 2000 2005 2010 2015 1 Intra-stock correlations represent the average pair-wise correlation of returns over monthly rolling 90-day periods. Chart is shown for illustrative purposes only and does not represent the performance of any specific security. Source: FactSet, data analysis by T. Rowe Price. 4
Cumulative Change Where Did Returns Come From During the Current Bull Market Cycle? S&P 500 TOTAL RETURN DECOMPOSITION December 31, 2009, to August 31, 2017 200% 150% Dividend Return Inflation Change in Projected 12 Month EPS Growth Valuation Adjustment* Total Return 100% 50% 0% -50% 2009 2010 2011 2012 2013 2014 2015 2016 Past performance is not a reliable indicator of future performance. *Valuation adjustment represents the cumulative change in index prices excluding changes in earnings or inflation. It may represent P/E changes, share count reduction, and other factors. Sources: Standard & Poor s, MSCI, FactSet, Haver Analytics, and data analysis by T. Rowe Price. Inflation measure used is CPI. 5
Technology Heath Care SMALL Materials Industrials Financials Discretionary Utilities Staples Telecom Energy MID LARGE Pronounced Outperformance by Growth Stocks in 2017 Time Periods Ending September 30, 2017 YTD RUSSELL STYLE RETURNS VALUE CORE GROWTH 7.9% 14.2% 20.7% YTD S&P 500 SECTOR RETURNS 30% 27.4% 25% 20% 15% 10% Sectors S&P 500 7.4% 11.7% 17.3% 5.7% 10.9% 16.8% 5% 0% -5% -10% -6.6% The spread between large-cap growth and small-cap value has been at record levels during 2017. Tech and health care outperformed in 2017 (for period ending Sept. 30) with the spread between best- and worst-performing sectors at extreme levels. Past performance is not a reliable indicator of future performance. Returns above are for Russell indices, which correspond to each style-box category. Source: The returns are based on data sourced from Standard & Poor s and Russell Investment Group and provided by third party vendor FactSet and compiled by T. Rowe Price. 6
Equity Risk Premium (%) Stocks vs. Bonds As of September 30, 2017 EQUITY RISK PREMIUMS September 2012 to September 2017 6 EQUITIES UNDERVALUED 5 4 3 EQUITIES OVERVALUED U.S. U.S. Median 2 2012 2013 2014 2015 2016 2017 Source: Absolute Strategy Research. Note: Medians shown cover the last five years. The Thomson Reuters Equity U.S. Index is the underlying index used for this analysis. 7
P/E Multiple Valuations Slightly Elevated Relative to History FORWARD PRICE-TO-EARNINGS (P/E) RATIOS* March 2002 September 2017 30 27 24 21 18 15 12 Current Average High** Low 9 Russell 1000 Russell 1000 Value Russell 1000 Growth Russell Midcap Russell Midcap Value Russell Midcap Growth Russell 2000 Russell 2000 Value Russell 2000 Growth P/E Ratios (1-Year Forward) by Russell Style Indices Sources: FactSet and Russell; data analysis by T. Rowe Price. *P/E ratios are based on FactSet Market Aggregates. **In some cases, the 15-year high may be too extreme to appear on the chart. PAST 15 YEARS Current Sep. 30, 2017 Average High Low Current Valuation to 15-Year Average Russell 1000 17.98 14.68 17.98 10.37 23% Russell 1000 Value 15.94 13.15 16.51 9.36 21 Russell 1000 Growth 20.67 16.66 20.99 10.71 24 Russell Midcap 18.19 15.69 18.68 10.17 16 Russell Midcap Value 16.44 14.13 18.52 10.17 16 Russell Midcap Growth 21.13 18.04 22.51 10.06 17 Russell 2000 25.19 20.16 25.19 13.96 25 Russell 2000 Value 19.44 16.79 22.66 12.08 16 Russell 2000 Growth 35.01 25.44 37.64 16.32 38 8
Ratio Large-Cap vs. Small-Cap As of September 30, 2017 U.S. SMALL-CAP STOCKS VS. U.S. LARGE-CAP STOCKS Ratio of 12-Month Forward P/E Ratio December 1978 to September 2017 1.3 LARGE-CAP UNDERVALUED 1.1 0.9 0.7 SMALL-CAP UNDERVALUED Ratio: Russell 2000 vs. Russell 1000 Median 0.5 1978 1983 1988 1993 1998 2003 2008 2013 Past performance is not a reliable indicator of future performance. Sources: FactSet, Russell, and Bureau of Economic Analysis; data analysis by T. Rowe Price. 9
Ratio Growth vs. Value As of September 30, 2017 U.S. GROWTH VS. U.S. VALUE Ratio of 12-Months Forward P/E Ratio December 1978 to September 2017 1.0x GROWTH UNDERVALUED 0.8x 0.6x 0.4x VALUE UNDERVALUED Ratio of Russell 1000 Value Forward PE to Russell 1000 Growth Forward PE Median 0.2x 1978 1983 1988 1993 1998 2003 2008 2013 Past performance is not a reliable indicator of future performance. Sources: FactSet, Russell, and Bureau of Economic Analysis; data analysis by T. Rowe Price. 10
P/E Multiple Relative to S&P 500 Technology, Health Care, and Telecom Sectors Are Discounted Relative to History RELATIVE FORWARD P/E RATIOS March 1997 September 2017 2.0 1.6 Current Average High* Low 1.2 0.8 0.4 0.0 Energy Materials Consumer Discretionary Industrials Information Technology Financials Consumer Staples Health Care Telecom. Utilities P/E Ratios (1-Year Forward) by Sector Current Sep. 30, 2017 PAST 15 YEARS Relative to S&P 500 Average High Low Current Valuation to 15-Year Average Energy 29.82 1.68 1.08 4.66 0.65 55% Materials 18.34 1.03 0.89 2.43 0.34 16 Consumer Discretionary 19.48 1.10 1.14 2.07 0.84-4 Industrials 18.26 1.03 1.03 1.20 0.80 0 Information Technology 18.44 1.04 1.26 2.23 0.90-18 Financials 14.34 0.81 0.82 1.27 0.57-1 Consumer Staples 19.18 1.08 1.09 1.30 0.63-1 Health Care 16.60 0.93 1.08 1.53 0.73-13 Telecom 13.20 0.74 1.04 1.58 0.72-29 Utilities 17.72 1.00 0.91 1.27 0.52 10 Sources: FactSet and Standard & Poor's; data analysis by T. Rowe Price. Chart is shown for illustrative purposes only and does not represent the performance of any specific security. *In some cases, the 20-year high may be too extreme to appear on the chart. 11
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017E 2018E 2019E 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017E 2018E 2019E Percent (%) Percent (%) Earnings Expected to Rebound in 2017 S&P 500 INDEX EARNINGS PER SHARE (EPS) GROWTH 2003 2019E 75 63.1 S&P 500 INDEX REVENUE GROWTH 2003 2019E 20 50 25 0 30.2 24.8 15.8 12.1 3.1 16.0 9.8 7.4 11.1 10.2 5.4 3.2-5.5-4.5 15 10 5 0-5 12.8 11.1 10.2 8.6 7.3 4.0 10.5 7.8 5.5 4.8 4.7 3.0 3.2 2.0-0.6-2.4-25 -18.7-10 -50-38.8-15 -13.0 *Institutional Brokers Estimate System (IBES) estimate. Sources: FactSet and Standard & Poor s. 12
Earnings per Share Forward Earnings Estimates Have Stabilized S&P 500 EPS AND ESTIMATE PATHS 2007 to 2018, in U.S. Dollars $160 2016 2017 2018 $140 2014 2015 2010 2013 $120 2009 2012 $100 2008 2007 2011 $80 $60 Actual EPS Results Estimate Paths, Even Years Estimate Paths, Odd Years $40 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 Chart is shown for illustrative purposes only and does not represent the performance of any specific security. Sources: FactSet and Standard & Poor s. 13
2013 Q1 2013 Q2 2013 Q3 2013 Q4 2014 Q1 2014 Q2 2014 Q3 2014 Q4 2015 Q1 2015 Q2 2015 Q3 2015 Q4 2016 Q1 2016 Q2 2016 Q3 2016 Q4 2017 Q1 2017 Q2 2017 Q3 (E) 2017 Q4 (E) 2018 Q1 (E) 2018 Q2 (E) 2018 Q3 (E) 2018 Q4 (E) Cumulative Growth in Operating Earnings per Share Significant Dispersion in Earnings Growth by Sector As of September 30, 2017 EARNINGS GROWTH BY SECTOR 2010 to 2018E 100% 80% 60% 40% 20% 0% -20% -40% -60% -80% S&P 500 Health Care, Information Technology S&P 500 Financials, Real Estate and Utilities S&P 500 Consumer Discretionary, Consumer Staples S&P 500 Energy, Industrials, Materials -100% Past performance is not a reliable indicator of future performance. Sources: Standard & Poor s and FactSet. 14
Cumulative Growth Since December 2009 (%) Margin Growth Key Driver of the Current Cycle S&P 500 INDEX: CUMULATIVE GROWTH SINCE LAST EARNINGS TROUGH December 2009 to September 2017 (93 months) 160 140 120 Earnings Per Share Net Margin Revenue Per Share 143% 100 80 79% 60 40 35% 20 0-20 2009 2010 2011 2012 2013 2014 2015 2016 Chart is shown for illustrative purposes only and does not represent the performance of any specific security. Sources: FactSet and Standard & Poor s. 15
Debt/Equity Level Cash/Market Cap Level Leverage Has Increased TOTAL DEBT AS % OF TOTAL EQUITY January 1995 to September 2017 CASH AS % OF MARKET CAPITALIZATION January 1995 to September 2017 130 120 S&P 500 Large Cap S&P 600 Small Cap 22 S&P 500 Large Cap S&P 600 Small Cap 110 18 100 90 80 14 10 70 60 6 50 1995 1998 2001 2004 2007 2010 2013 2016 2 1995 1998 2001 2004 2007 2010 2013 2016 Chart is shown for illustrative purposes only and does not represent the performance of any specific security. Sources: FactSet and Standard & Poor s. 16
Seasonally Adjusted Year-Over-Year Growth (%) Corporate Confidence Could Re-energize Investment Spending CEO CONFIDENCE VERSUS INVESTMENT SPENDING 1Q 2006 to 2Q 2017 20 115 10 0-10 -20 Real Private Fixed Income (L) CEO Economic Outlook Survey (R) 95 75 55 35 15-5 Survey Diffusion Index (+50 = Expansion) -30 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017-25 Sources: Standard & Poor s, Haver Analytics, Bureau of Economic Analysis, and Business Roundtable. 17
U.S. Equities: Outlook Summary View is cautious no real catalyst in sight for a risk-off environment, but valuations are elevated across asset classes. In our view, moderately rising short-term interest rates should not impede U.S. equity returns. Information technology and health care outperformed in 2017 (for period ending Sept. 30), but we believe their valuations remain attractive. Earnings growth could resume in 2017. Estimates are high upside surprises will be hard to achieve. 18
Important Information For 2018 Global Market Outlook Press Briefing. Provided to designated members of the press only, not for further distribution. This material is being furnished for general informational purposes only. The material does not constitute or undertake to give advice of any nature, including fiduciary investment advice, and prospective investors are recommended to seek independent legal, financial and tax advice before making any investment decision. T. Rowe Price group of companies including T. Rowe Price Associates, Inc. and/or its affiliates receive revenue from T. Rowe Price investment products and services. Past performance is not a reliable indicator of future performance. The value of an investment and any income from it can go down as well as up. Investors may get back less than the amount invested. The material does not constitute a distribution, an offer, an invitation, a personal or general recommendation or solicitation to sell or buy any securities in any jurisdiction or to conduct any particular investment activity. The material has not been reviewed by any regulatory authority in any jurisdiction. Information and opinions presented have been obtained or derived from sources believed to be reliable and current; however, we cannot guarantee the sources' accuracy or completeness. There is no guarantee that any forecasts made will come to pass. The views contained herein are as of the date noted on the material and are subject to change without notice; these views may differ from those of other T. Rowe Price group companies and/or associates. Under no circumstances should the material, in whole or in part, be copied or redistributed without consent from T. Rowe Price. The material is not intended for use by persons in jurisdictions which prohibit or restrict the distribution of the material and in certain countries the material is provided upon specific request. MSCI makes no express or implied warranties or representations and shall have no liability whatsoever with respect to any MSCI data contained herein. The MSCI data may not be further redistributed or used as a basis for other indices or any securities or financial products. This report is not approved, reviewed, or produced by MSCI. Russell Investment Group is the source and owner of the trademarks, service marks, and copyrights related to the Russell indexes. Russell is a trademark of Russell Investment Group. USA Issued in the USA by T. Rowe Price Associates, Inc., and T. Rowe Price Investment Services, Inc., 100 East Pratt Street, Baltimore, MD 21202. Unless otherwise stated, this material is issued outside of USA by T. Rowe Price International Ltd, 60 Queen Victoria Street, London EC4N 4TZ which is authorized and regulated by the UK Financial Conduct Authority. T. ROWE PRICE, INVEST WITH CONFIDENCE and the Bighorn Sheep design are, collectively and/or apart, trademarks or registered trademarks of T. Rowe Price Group, Inc. All rights reserved. 201711-295834 19
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