How profits, stocks can rise as economy stumbles
NEW YORK (AP) -- With earnings season in full swing, bulls and bears are combing through reports to arm themselves in what's become the mother of all stock market debates: Does the recovery gain steam, sending shares aloft? Or does it remain sluggish, or even stall, and push them down further?
A third possibility: Maybe the economy doesn't matter so much.
Larry Hatheway, an economist at UBS, says economic growth means companies selling more things. But he thinks that is not as important as it used to be to generating the profits needed to send stocks higher. That's because U.S. firms have mastered the art of pulling more and more money from each dollar of sales.
One gauge of that success: Corporate margins, or profits per sale, are hovering near 12 percent now, by one measure -- tantalizingly close to a half-century high.
"As long as we don't fall into another recession, it's a good time to make money," says Hatheway, who's bullish on stocks. "We're able to squeeze more profits out of sales than we were twenty or thirty years ago."
Though just a third of companies in the Standard & Poor's 500 have reported quarterly earnings results so far, the picture is impressive. Profits are booming. Eight out of ten companies have beat earnings expectations, according to Thomson Reuters. The average jump in profits is 33 percent.
It's an old story, really. Companies cut workers in a downturn, and squeeze more out of those remaining. And so profitability rises smartly -- only to fall again in the recovery as sales and payrolls rise once more.
But Hatheway says margins will stay high for a while yet because the forces that pushed them there aren't going away anytime soon.
He says high unemployment is likely to stick around longer than in typical recoveries. And while that's bad for the economy, it's good for margins. "Firms can pick good employees and dictate compensation," he says.
David Fuller's view If you invest in
equities you buy stocks not the economy. Sure, if the economy falls off a cliff
earnings will certainly suffer but that was in 4Q 2008, not today and almost
certainly not during 2H 2010. Yes, GDP growth is likely to slow somewhat but
that is reflected in the correction which we have already seen since the April
highs.
Also,
there is too much US-centric focus, in my view. What we continue to see is a
two-tier global economy, with western OECD countries mostly in the slow GDP
growth lane and experiencing deflationary pressures. However Asian-led progressing
markets, which account for a much bigger chunk of the world's population, are
experiencing considerably faster GDP growth and some inflationary pressures.
Monetary
policy, which trumps most other factors most of the time, remains extremely
accommodative in the US, Europe and Japan. Interest rates are higher in the
progressing countries, but less so than might otherwise be the case due a wish
to avoid too much upward pressure on their currencies and some concern over
weaker economies in the West.
This
article
by Lynn Thomasson for Bloomberg - Stock Buying Hits Bull Market Record at
Mutual Funds - provides useful information and further insights. Here is
the opening:
Mutual
funds, pensions and endowments are spending more on stocks than at any time
since the start of the bull market, just as individuals grow the most pessimistic
in a year.
Institutions pushed equities up to 68 percent of their holdings in July, the
highest level in 15 months, from 63 percent in April, a Citigroup Inc. survey
showed. The ratio of bullish to bearish respondents in a survey by the American
Association of Individual Investors has fallen to 0.68, the lowest level since
July 2009, based on a four-week average.
The last time money managers and individuals were this far apart was in March
2009, before the Standard & Poor's 500 Index began its 63 percent rally,
according to data compiled by Bloomberg. It may signal another buying opportunity
after concern the U.S. economy will fall into a recession wiped out $1.6 trillion
from American equity values since April, according to Fritz Meyer, a Denver-based
senior market strategist at Invesco Inc., which oversees $558 billion.
Public sentiment remains bearish and a contrary indicator.
The AAII
[American Association of Individual Investors] measure of pessimism peaked on
July 8 at 57 percent, the most since March 5, 2009. Bullishness has averaged
29 percent during the past four weeks, compared with 45 percent who were bearish,
according to the weekly survey.
The last time optimism fell this low relative to pessimism was July 24, 2009,
two weeks after the S&P 500 began a 38 percent rally, data compiled by AAII
and Bloomberg show. The Chicago-based group asks a few hundred people each week
through its website whether they are bullish, bearish or neutral on the stock
market in the short term, according to editor Charles Rotblut.
Scared Away
"Individual investors were spooked by the May 6 flash crash and they're
wondering if the stock market is a fair game," said Dickson, chief market
strategist at Great Falls, Montana-based D.A. Davidson, which oversees $25 billion.
"Professionals realize there have been changes in the market to prevent
a repeat of that. I don't think that's been communicated broadly to the retail
investor."
The May 6th flash crash was inevitably going to damage
public sentiment towards the US stock market. Private investors can opt out
of the stock market and some obviously have. Those of us with careers in the
financial industry will stick around and perhaps lobby for reforms.
I think
the public is overweight in bonds and underweight in global equities. Seasonally,
we are entering a quiet period for stock markets, not least because of summer
holidays in Europe and the USA. That may lead to some further ranging but the
technical outlook has improved during the last three weeks, often led by Fullermoney
secular themes. Valuations are generally moderate. This bodes well for 4Q 2010.