June 18, 2007
Mr. Market is full of surprises. Some are good, others less so. For the moment, the fomer seems to be in control when it comes to equities, and arguably the main reason is the fact that consumers continue to surprise as well with a seemingly non-stop bout of spending.
More than a few analysts have been surprised by the trend. Indeed, bears remain flabbergasted that the median firm in the S&P 500 reported a 10.1% rise in earnings in the first quarter, according to Zacks. That marks the 19th consecutive quarter of double-digit gains. Perhaps even more encouraging for the here and now is the fact that two cyclical sectors of the S&P reported the strongest earnings gains in Q1: a 14.5% jump for materials (which was the earnings leader among the 10 sectors); and a 13.5% rise for industrials.
One is inclined to connect the dots and note that Joe Sixpack's affinity for spending shows no sign of slowing in recent history. The latest evidence came in last week's retail sales report for May, which registered a 1.4% jump over the previous month--the strongest monthly advance since January 2006. Reports of the death of consumer spending, in other words, have been greatly exaggerated.
The future, of course, is up for grabs, as always. But for now, there's no denying the basic American urge to spend, to keep on spending, and spend a little more. If Joe wills it, channeling triumph by way of his wallet, a financial reckoning of any great magnitude will be postponed. No one can say for how long, but skeptics of the Joe's capacity for consumption, conspicuous or otherwise, have taken it on the chin so far.
To the extent that one can draw conclusions about earnings predictions, the odds are low to mixed that a material change in trend is imminent. Again using Zacks numbers, the Q2 estimate for earnings in the median S&P 500 company calls for an 8.9% rise. That's down from Q1, and perhaps indicative of the great slowdown that many say is lurking. Perhaps, although an 8.9% rise is hardly suggestive that the apocalypse is just around the corner. Indeed, the projected growth of earnings for 2007 for the median S&P firm is robust 10.9%. If anything like that holds fast, a recession worthy the name this year seems as likely as the renunciation of violence in the Middle East.
The bears aren't giving up, however. The persistence of high gasoline prices, rising interest rates and an ongoing slump in housing stoke fear in some that today's rosy pace of consumer spending will soon turn lower. We're living on borrowed time, in other words. But the fact is, economic momentum generally has been strong. April was particularly impressive on a number of fronts, and some of that has spilled over to May.
It's possible that the bottom could fall out of the economy in coming weeks, but such a reversal isn't obvious to our eyes yet, at least as we look backward from mid-June. That said, there's no dearth of things to worry about, starting with the fact that bull markets are in bloom nearly everywhere and expectations for more of the same appear baked into the cellular structure of every trader and dealmaker on Wall Street. That by itself worries your editor and makes a case for methodically if undramatically moving money from risk-laden asset classes sitting on tidy gains to risk-free ones.
Like baseball and war, anything's possible in the immediate future, but eventually the stats determine the outcome. We're not sure if momentum's in the 7th inning or the 9th, but we're looking ever closer for clues. At some point, a climate of value will retake the throne from momentum, reinforcing the ancient tradeoff of pendulum swinging between the two. The longer one rolls on, the more intensely we prepare for the other's arrival.
Admittedly, ours is a strategy born of ignorance for what's coming and when. In the absence of knowing the future, we're reduced to reading the past and defending against surprises, albeit in moderation and gradually.
Posted by jp at June 18, 2007 10:17 AM
I am not sure how you are connecting the dots here. Your numbers on Corporate profits look good but they are EPS numbers right? We are in the midst of an unprecedented wave of corporate share buybacks. The number of shares outstanding is shrinking so it is possible to show profit growth without actaully having any because the denominator is shrinking. If you want to connect the dots of corporate profits to the real economy then shouldn't you reference the natioanl account stats that tell you actual profits? These numers show that Non financial corporations have had zero profit growth for the past 12 months. ZERO. Now last month's retail sales, yes the last number was better than expected. But this is a nominal amount of dollars spent. If you adjust it for inflation, i.e., don't look at how much money they spent but how much stuff did they actually buy, the number is a lot less impressive. If you put it together with the previous 2 months and take out gasoline, as that is very inelastic compared to normal retail shopping then the number looks worse again. The point is, the US consumer may be holding up but she is slowing and she is only buying more by borrowing more as one can see by the sharp increase in credt card borrowing the past few months.
Posted by: Max at June 19, 2007 6:23 AM