Wednesday, January 25, 2017

DJIA 20,000: Counting on Earnings

Today was another happy day for the bull market that started on March 9, 2009, when the DJIA was 6547.05. Today, it crossed 20,000. It closed above 1000 on November 14, 1972, 5000 on November 21, 1995, 10,000 on March 29, 1999, and 15,000 on May 7, 2013. I first joined Wall Street during January 1978 when EF Hutton hired me as an economist. The DJIA is up 2,314% since the start of my career on the Street. It is up 206.5% so far since March 9, 2009. It is up 9.5% since Election Day.

For a change, let’s ignore Washington. Let’s ignore the Republicans and the Democrats. Let’s ignore the White House, Congress, and K Street. That’s what the financial markets were doing for the past eight years. Investors were focusing most of the time on the Fed and the other central banks. Now we are all being forced to participate (in one way or the other, though mostly as observers) in the greatest circus of all times. I guess that is only fitting now that Ringling Brothers is going out of business. Instead it will be Cirque du Trump 24x7 for the next four years.

Of course, over the past eight years, stock market investors also have been focused on earnings, as they always are. While the 7.4% rally in the S&P 500 after Election Day through Wednesday’s record high might have had a lot to do with the results of that day, it helps that the earnings outlook has been improving. In our 8/22 Morning Briefing, I declared that the earnings recession was over, and that it was mostly attributable to the S&P 500 Energy sector as a result of the plunge in oil prices from mid-2014 through early 2016.

Let’s analyze the latest earnings data:

(1) Earnings. On a year-over-year basis, S&P 500 operating earnings, based on Thomson Reuters (TR) data, showed declines from Q3-2015 through Q2-2016. It rose 4.1% during Q3-2016, and probably rose around 6.0% during Q4-2016. Arguably, the earnings recession ended earlier than suggested by the growth rate based on the actual level of operating earnings (TR basis), which bottomed during Q1-2016, declining 11.7% from the previous record high during Q4-2014. It is up 15.8% from that recent bottom through Q3-2016 to a new record high.

(2) Revenues. On a year-over-year basis, S&P 500 revenues declined from Q1-2015 through Q4-2015. It edged up during the first half of 2016, and was up 2.5% y/y during Q3-2016. This too suggests that the earnings recession actually ended in early 2016.

(3) Q4 reporting season. So far this earnings-reporting season, i.e., through the 1/19 week, the blended earnings number (including both reported and estimated figures) shows a gain of 4.7%, up from 4.1% the previous quarter. Joe and I are expecting the traditional upward “hook” in actual earnings relative to expected earnings for the current earnings season, which is why we predict that the actual growth rate will be close to 6.0%.

(4) Forward ho! S&P 500 forward operating earnings per share, which is the time-weighted average of consensus expected earnings for the current and next year, rose to $133.65 during the 1/19 week. That’s a fresh record high and a good leading indicator for actual earnings as long as there is no recession coming over the next 12 months.

The consensus estimate for 2018 has been moving higher in recent weeks, which doesn’t usually happen, as optimistically biased analysts typically lower their distant forecasts as reality approaches. Analysts may be starting to incorporate tax cuts and less regulation into their 2018 estimates. They now expect that 2018 earnings will rise 12.0%, following this year’s gain of 12.3%.

The analysts may also be raising their economic growth expectations, as evidenced by the firming in their 2017 and 2018 estimates for S&P 500 revenues, which are showing gains of 5.8% this year and 4.9% next year. Forward revenues is also rising in record-high territory.

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