Goldman Sachs revamps conviction list after stocks soar in Q1

The S&P 500 jumped 10% in the first quarter, its largest gain since the first quarter of 2019.

A combination of strong earnings, a buoyant economy, and anticipation of interest-rate cuts from the Federal Reserve sparked the move.

S&P 500 earnings rose 4.2% in the fourth quarter from a year earlier, surpassing expectations, according to FactSet. The economy grew 3.4% annualized in that quarter. And Fed officials have a median forecast for three interest-rate reductions this year.

It's difficult to know how long the stock market rally will continue. The S&P 500 has generated an annualized total return of 15.05% over the past five years, far above the 9.27% return for the past 50 years, according to Moneychimp.

In addition, the forward price-earnings ratio for the S&P 500 was 20.9 as of Thursday, exceeding the five-year average of 19.1 and the 10-year average of 17.7, according to FactSet.

So, we may have a substantial stock correction coming soon, making it important to own high-conviction stocks like the ones favored by Goldman Sachs.

David Solomon, CEO of Goldman Sachs, which adjusted its stock Conviction List.Alexander Tamargo/Getty Images

The importance of stock selection

Whether a correction is coming or not, stock selection is an important issue for those who buy individual stocks rather than index funds.

Keep in mind that just four stocks – Amazon (AMZN) , Meta Platforms (META) , Microsoft (MSFT,) and Nvidia (NVDA) – accounted for almost 50% of the S&P 500's first-quarter rally, according to Howard Silverblatt of S&P Dow Jones Indices, as cited by The Wall Street Journal.

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For those investors who want to purchase stocks now, how do you choose which ones? A basic rule of thumb is to opt for companies with strong, undervalued earnings based on a widely accepted metric.

Goldman Sachs' conviction stocks list

When picking stocks, Goldman Sachs' U.S. Conviction List – Directors' Cut is a useful resource. It consists of 20-25 of "what we believe to be our most differentiated fundamental buy ideas across our U.S. stock coverage," Goldman says.

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For April, Goldman Sachs made the following changes to its list. Remember that removal from the list doesn't mean that Goldman analysts downgraded the stocks from buy. It simply means they favor other stocks more.

Three high-conviction additions:

1. Citigroup (C) , the big bank. First-quarter total return: 24%. Goldman Sachs' one-year price target: $69. Monday price: $63.40.

"Citi is pulling three levers to drive outsized growth over the next three years," wrote Goldman analysts.

First, there's revenue growth. They said that that will stem from a strong services business, capital markets expansion, and robust credit-card volume growth.

The second factor is the execution of a business simplification and reorganization strategy. The third is freeing up capital by exiting its remaining non-core international consumer markets.

2. Royal Caribbean Cruises (RCL) , the cruise line. First-quarter return: 7%. Goldman Sachs' price target: $162. Monday price: $140. Goldman analysts see four themes boosting the stock.

"A halo effect from fleet optimization," they said. Royal Caribbean has four new mega-ships on order.An expansion at CocoCay in the Bahamas, a resort island leased exclusively by Royal Caribbean Cruises.A China market share opportunity. "RCL will be the first to re-launch in China for the first time in almost 5 years," the analysts said.A compelling capital return story. As Royal Caribbean cuts its debt, share repurchases and/or a dividend reinstatement are possible.

3. Schlumberger (SLB) , the oil services/offshore drilling giant. First-quarter return: 6%. Goldman price target: $62. Monday price: $55.50

"We view SLB as the preferred stock to gain exposure to international and offshore growth," Goldman analysts said.

Healthy international spending supports Schlumberger, they said. Also it benefits from the fact that "the industry isn't heavily digitized, and SLB is the only digital provider in the space that carries competitive moat." Strong cash flow also will help the stock, the analysts said.

4. TPG (TPG) , the alternative-asset management company. First-quarter return: 5%. Goldman price target: $51. Monday price: $45.

Goldman analysts see TPG benefiting from its purchase of investment firm Angelo Gordon, fundraising prowess and strong earnings.

Four stocks removed from Goldman Sachs' list

Goldman's report didn't provide price targets or commentary for these companies.

1. Chevron (CVX) , the oil producer. First-quarter return: 7%.

2. Blue Owl Capital (OWL) , an alternative asset management firm. First-quarter return: 28%.

3. TE Connectivity (TEL) , the world's largest electrical connector supplier. First-quarter return: 13%

4. Cintas (CTAS) , a work uniform provider. First-quarter return: 14%.

The author owns shares of Cintas.

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