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Earnings Recession Talk Quiet as Investors Look to 2020

Have you noticed that all those loud concerns about the 2019 earnings recession have receded over past few weeks? Previously there were screaming headlines about it. Why is that? Well, with the market hitting all-time highs in July and again recently, it tends to put a damper on such worries. Investors now ignore it. Even so, many forget that the stock market is a machine that’s generally pretty good at discounting the longer-term future—if sometimes poor in the short term. There are certainly issues that will continue to cause anxiety—U.S. China trade and the global economic slowdown remain pebbles in the market’s shoes—but earnings growth no longer seems to be one of them. With 2019 pretty near the end, investors are discounting future growth and the 2020 earnings increase for the S&P 500 index looks healthy, at double digit percentage growth. First, let’s get 2019 out of the way. We are now nearly all the way through the third quarter reporting season, with the great majority of companies in the SPX having announced. According a recent report from FactSet, third quarter earnings reports are steadily coming in less bad than expected, at about less than negative 3%, which is better than -3.7%, -4.1% and -4.7%, respectively, over the past few weeks. The blended revenue growth rate for the S&P 500 for Q3 2019 is around 3%. What’s important to note is the trend towards improved—less negative—earnings expectations. In general during bull markets, analysts typically would be too optimistic and have to ratchet back estimates as the year progresses. Here we find them forced to improve their numbers because they are too pessimistic. That’s likely due to the overwhelming belief among investors that this decade old bull market is on its last legs. That’s a contrarian and bullish sign. The trend is your friend here, and analysts were doing the same in the first quarter and second quarters, both of which posted slight percentage drops compared to the corresponding year ago periods. That’s where all the earnings recession talk originated. In this year’s fourth quarter, analysts estimate SPX EPS at about $42, up slightly from a bit over $41 in the same period of 2018. There is a chance this will turn slightly negative. As for 2019 SPX EPS growth as a whole, it is currently estimated at about 1% or so, depending on which data provider you consult. And, as I noted above, if the fourth quarter undergoes the same trend as the previous ones, then for the year EPS growth could even be slightly negative. Analysts estimate SPX 2019 EPS at about $163, up slightly from $162 in 2018, when growth was over 20%. Remember, however, 2018 was helped by a one-time reduction in corporate earnings enacted in late 2017 by the Trump administration. The tax cuts have been lapped. The two-year average growth since 2017 is 9.5%. So what about 2020? The bottom up consensus of industry analysts is for SPX EPS to be about $180 next year, or a 10% growth from 2019. My colleague Tom Lee has an estimate of about $184 next year. And Tom Lee also makes a good case for U.S. growth to begin reaccelerating soon. He says three factors suggest the US Purchasing Managers Indexes are bottoming: long term yield curve (discussed previously in these pages); key groups sensitive to PMIs are rallying, and ISM New Orders/Inventory looks like it has bottomed. In the first place, the long-term yield curve is steepening. The long-term yield curve (10-month change of UST 30-yr-10-yr yield spread) signaled 16M ago a downturn in ISM PMI was coming. Since our April 2017 study, the long-term yield curve seems to be doing a pretty good job of predicting ISM. The continued weakness in 2018-19 was predicted 16 months ago. More importantly, if the pattern holds, then the ISM should be bottoming soon with an upturn expected as we move into year end. Second, PMI sensitive groups are rallying, such as semis (since 5/28), Germany’s DAX (8/16) and capital goods (10/21). Third, another possible clue is the collapse in the ratio of ISM new orders/inventory. Normally, a collapse in new orders is a foreboding sign, as it points to a collapse in the business cycle. However, if businesses slowed ordering due to “trade shock,” then this is what could be behind the recent plunge. Inventories take time to rebuild. Tom has raised his 3125 target to 3185 for the SPX yearend and the rally should continue into 2020. It doesn’t hurt, too, that the market is about to enter what is historically been the six-month period characterized by good gains. And November itself, over the past 100 years, has been kind, with an average 0.89% return and positive nearly two-thirds of the time. The market closed this week at 3090, an all-time high and up 23% on the year. As Tom Lee wrote this week, this has been one of the strongest years for equities in the past 20 years. And if his analysis is correct (see next section), there could be further upside ahead. Questions? Contact Vito J. Racanelli at vito. racanelli@fsinsight. com or 212 293 7137. Or go to

free content

Earnings Recession Talk Quiet as Investors Look to 2020

Have you noticed that all those loud concerns about the 2019 earnings recession have receded over past few weeks? Previously there were screaming headlines about it. Why is that? Well, with the market hitting all-time highs in July and again recently, it tends to put a damper on such worries. Investors now ignore it. Even so, many forget that the stock market is a machine that’s generally pretty good at discounting the longer-term future—if sometimes poor in the short term. There are certainly issues that will continue to cause anxiety—U.S. China trade and the global economic slowdown remain pebbles in the market’s shoes—but earnings growth no longer seems to be one of them. With 2019 pretty near the end, investors are discounting future growth and the 2020 earnings increase for the S&P 500 index looks healthy, at double digit percentage growth. First, let’s get 2019 out of the way. We are now nearly all the way through the third quarter reporting season, with the great majority of companies in the SPX having announced. According a recent report from FactSet, third quarter earnings reports are steadily coming in less bad than expected, at about less than negative 3%, which is better than -3.7%, -4.1% and -4.7%, respectively, over the past few weeks. The blended revenue growth rate for the S&P 500 for Q3 2019 is around 3%. What’s important to note is the trend towards improved—less negative—earnings expectations. In general during bull markets, analysts typically would be too optimistic and have to ratchet back estimates as the year progresses. Here we find them forced to improve their numbers because they are too pessimistic. That’s likely due to the overwhelming belief among investors that this decade old bull market is on its last legs. That’s a contrarian and bullish sign. The trend is your friend here, and analysts were doing the same in the first quarter and second quarters, both of which posted slight percentage drops compared to the corresponding year ago periods. That’s where all the earnings recession talk originated. In this year’s fourth quarter, analysts estimate SPX EPS at about $42, up slightly from a bit over $41 in the same period of 2018. There is a chance this will turn slightly negative. As for 2019 SPX EPS growth as a whole, it is currently estimated at about 1% or so, depending on which data provider you consult. And, as I noted above, if the fourth quarter undergoes the same trend as the previous ones, then for the year EPS growth could even be slightly negative. Analysts estimate SPX 2019 EPS at about $163, up slightly from $162 in 2018, when growth was over 20%. Remember, however, 2018 was helped by a one-time reduction in corporate earnings enacted in late 2017 by the Trump administration. The tax cuts have been lapped. The two-year average growth since 2017 is 9.5%. So what about 2020? The bottom up consensus of industry analysts is for SPX EPS to be about $180 next year, or a 10% growth from 2019. My colleague Tom Lee has an estimate of about $184 next year. And Tom Lee also makes a good case for U.S. growth to begin reaccelerating soon. He says three factors suggest the US Purchasing Managers Indexes are bottoming: long term yield curve (discussed previously in these pages); key groups sensitive to PMIs are rallying, and ISM New Orders/Inventory looks like it has bottomed. In the first place, the long-term yield curve is steepening. The long-term yield curve (10-month change of UST 30-yr-10-yr yield spread) signaled 16M ago a downturn in ISM PMI was coming. Since our April 2017 study, the long-term yield curve seems to be doing a pretty good job of predicting ISM. The continued weakness in 2018-19 was predicted 16 months ago. More importantly, if the pattern holds, then the ISM should be bottoming soon with an upturn expected as we move into year end. Second, PMI sensitive groups are rallying, such as semis (since 5/28), Germany’s DAX (8/16) and capital goods (10/21). Third, another possible clue is the collapse in the ratio of ISM new orders/inventory. Normally, a collapse in new orders is a foreboding sign, as it points to a collapse in the business cycle. However, if businesses slowed ordering due to “trade shock,” then this is what could be behind the recent plunge. Inventories take time to rebuild. Tom has raised his 3125 target to 3185 for the SPX yearend and the rally should continue into 2020. It doesn’t hurt, too, that the market is about to enter what is historically been the six-month period characterized by good gains. And November itself, over the past 100 years, has been kind, with an average 0.89% return and positive nearly two-thirds of the time. The market closed this week at 3090, an all-time high and up 23% on the year. As Tom Lee wrote this week, this has been one of the strongest years for equities in the past 20 years. And if his analysis is correct (see next section), there could be further upside ahead. Questions? Contact Vito J. Racanelli at vito. racanelli@fsinsight. com or 212 293 7137. Or go to

Fireworks On Wall Street; 3 Main Indexes Hit New Highs

For investors, the phrase “record high” just never gets old, does it? How could it. There was plenty of that, and chest and fist bumping too, in the just ended holiday-shortened week of trading. Oh, and buckets of fireworks were set off too, but not on the Fourth of July. Instead, Wall Street celebrated the nation’s founding early, with a trifecta, if you will, with all three major equity indexes hitting new highs on Wednesday, July third. While Friday’s action showed shares backtracking a little after a solid jobs report (more on that below), the rockets did red glare Wednesday. The Dow Jones Industrial Average, the Standard & Poor’s 500 index, and the Nasdaq reached new all-time highs. Weighed down by problems at Boeing (BA) and 3M (MMM), it was the first new high for the 30-member Dow—which previously hadn’t followed the other two to highs this year—in about nine months. The Dow’s breaking out seems to me a powerful confirmatory signal for this ten-year old bull market. According to Bespoke Investment Group: “the usual skeptics are out in full force calling the seemingly out of nowhere late day rallies nothing more than algos, but a rally is a rally and whether the buyer is a person or computer program, the sellers are still getting paid.” I doubt that an earnings recession or trade wars will knock this bull over. The cause will be a “Black Swan.” Good luck predicting that. The S&P 500 index closed at 2,990, up 19% on the year, and the Dow at 26,922, up 15% year to date. So which will come first, 3000 on the S&P 500 index or 30,000 on the Dow? I jest. Obviously, it is much more likely that the Standard & Poor’s 500 index will reach 3,000—just a handful of points away now — than the Dow will hit 30,000, which is roughly 3000 points away. Indeed, the S&P 500 index grazed that level when it reached 2996 Wednesday. Nevertheless, get your SPX 3000 baseball hats ready. And that could be followed in relatively short order by Dow 30,000 hats. Just keep an extra zero handy. Friday’s minor stock market reversal appears related to concerns about rates and the Federal Reserve. Given that investors are expecting the Fed to cut rates this month, the strong jobs data Friday gave investors some pause. In the vein of a good news for Main Street is bad news for Wall Street, the employment report Friday made some think that there will be less ammunition for the Fed to cut rates at the Federal Open Market Committee meeting at the end of this month (See page 6). U.S. employers added 224,000 jobs last month, according to the Labor Department’s latest data, sharply higher than Street projections of about 162,000. I defer to the market’s high expectations of a rate cut in the Fed funds rate later this month, I still think there could be some mid-summer and temporary disappointment. We’ll see. In general, last week’s rally was initially spurred by the U.S.-China trade truce agreed to at the G-20 meeting at June’s end. That allowed investors to focus on their hopes for a rate cut—at least until Friday, anyway. A softening in the world’s economic data has investors convinced central banks around the world will begin to reduce rates from here on. A bond rally reversed Friday as well, for the same reasons. The yield on the benchmark 10-year U.S. Treasury note jumped to 2.04% from 1.97% just before the jobs report. With benchmark Eurozone yields at new record lows and several in negative territory, it seems clear that foreign investors in particular are once again buying U.S. bonds, hedging the foreign exchange risk, and collecting a premium. If the world’s central banks continue to ease, this is likely to endure. U.S. Treasury international capital data shows a substantial net purchase of American bonds, $216.4 billion, over the last 12 months. The last three months were stronger still, at a $323 billion annualized pace. Foreign buyers appear to be driving a non-trivial amount of the recent declines in U.S. Treasury yields. Bottom Line: Continued choppy action through Q3 but the bull trots on to yearend. Quote of the Week: Understatement of the month from the WSJ: “A good part of European assets are in negative territory, which sort of shrinks the universe of positively yielding securities,” said Eric Brard, head of fixed income at Amundi, Europe’s largest asset manager. Yeah, we got it. Questions? Contact Vito J. Racanelli at vito. racanelli@fsinsight. com or 212 293 7137. Or go to /.

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