BELIEVE IT OR NOT – Ascend to a new market record high
This past week was undoubtedly for the Bulls. It had been a week of surprises with big winners and losers. The investors are fixated with hard cash numbers. Those companies that did not exceed analysts' low expectations were severely punished.
Although at the end of the week markets continued its path forward, it closed at 3,022 (October 25th), just scratching the all-time high record of 3,025.
About 40% or 200 S&P 500 U.S. companies have reported financial results. These companies' revenues are still growing at a slower pace than in the last two years (+2.6%), and the earnings are shrinking less than expected (-3.7%) compared to the previous year so far.
On average, there are cost pressures that are slightly reducing profit in the short term, i.e., higher wages and labor, higher raw materials costs, and other input costs. Still, Q3 2019 net profit margin (gross profit/net revenues) of companies represented by S&P 500 market index is expected to remain at a healthy 11.3%, lower than Q3 2018 record of 12% but higher than historical averages. The estimated net profit margins for Q4 2019 and 2020 are expected to remain very close to current levels.
The earnings of the aggregated companies included in the S&P 500 index for 2020 are still estimated to be in the mid-to-high single-digit earnings growth ( ~7%-10%). Analysts usually over-estimate future companies' earnings, but these estimates are adjusted down as results draw near. By just looking at current market levels, we infer that investors seem to expect these estimates will hold, and they are keeping their optimism.
If we consider 2019 might reach a ~1% to 2% earnings growth, we need to believe, to justify actual investor’s optimism, that economic conditions for 2020 will significantly change to sustain these estimated growth rates.
We have to assume investors on aggregated think companies revenue growth will be maintained or improve, and companies will reign over their cost structures or increase prices to achieve earning growth. We will also need to believe political events might change rather quickly, such as reducing the U.S.- China trade tariff, a reasonable resolution to Brexit issues, to mention a few.
Also, we will need to believe the Federal Reserve and other world central banks will continue their support to reignite growth, and U.S. consumers will keep their spending levels, and U.S. companies will need to continue to support market prices with generous buybacks programs. Last but not least, all current and future political drama due to the 2020 U.S. election should not affect adversely business and consumers' sentiment.
The economic and market scenario described above is possible, but the likelihood that everything happened entirely and on time is less likely. We believe overall companies' revenue and earnings growth estimates might be lower than expected. We expect analysts might continue adjusting down 2020 S&P revenues and earnings growth forecast quicker than expected to a positive but slower pace. We will carefully keep track of this development in the next two quarters to confirm or deny this hypothesis.
Last week, the Standard and Poor’s 500 market index was up +0.75%. The emerging markets equity and the rest of the developed markets equity indexes ended up +1.34% (using IEMG) and +0.44% (using VEA). The U.S. oil price WTI closed at 56.6 USD per barrel last week. The gold price ended the week at 1,507 USD per ounce.
Next week 156 S&P companies will report results, among them bellwethers like Apple, Google, Walgreens, Exxon, Chevron, Bristol-Myers, to mention a few. On top of these events, The Federal Reserve Bank will announce whether or not to cut rates for a third time this year next Wednesday.
For more information, questions or to review your portfolio, reach me at
michele.lopez@mellig.us or +1-786-953-0475 (Whatsapp)
Instagram: mr_mklopez
Michele López