Biggest S&P 500 bull signal seen in bottoming earnings revisions


  • Markets
  • Wednesday, 20 May 2020

NEW YORK CITY: A hard-to-see shift in how Wall Street views the future of S&P 500 profits may have set the stage for days like today, when stocks are rising the most in nearly three weeks.

While earnings expectations continue to embed a world of pain for demand-depleted companies, projections on the scope of the disaster have recently undergone a mild easing, going by analyst estimates.

On a relative basis, the number of companies experiencing upward revisions have outpaced those with downward revisions for three weeks, the longest stretch since January, data compiled by Morgan Stanley showed.

The improvement was small, rolling back less than 10% of the downward plunge in analyst-revision breadth that started in February. But the direction could be big news in a market that has struggled for months to locate a low point in the economic devastation spurred by the coronavirus pandemic.

“Revisions have bottomed and have been consistently moving higher, ” Mike Wilson, chief US equity strategist at Morgan Stanley, wrote in a note to clients. “The turn in revisions breadth is an important signal.”

Revived analyst sentiment could buttress views that investors see a trough in the profit recession.

After falling 43% in the April-June period, the pace of declines will likely slow before growth turns positive early next year, analyst estimates compiled by Bloomberg Intelligence showed.

The trajectory of growth, according to some, is why stock valuations may not be as crazy as they look. Should the market stay where it is now and analysts’ estimates hold, it’d be the only time during the last two decades where a 10% rally in stocks coincided with a profit contraction of 40%.

That said, such mismatches aren’t unheard of, and in fact the stock market has tended to do better in times of supbar growth. Since 1988, the S&P 500 has risen at an annualized pace of 14% when the expected rate of profit expansion in the following 12 months sat below 3.4%, according to a study by Ned Davis Research.

That compared with a decline of 2.7% when growth exceeded 14%.

Ned Davis, founder of his name-sake firm, provides two explanations on why the market can rally on dismal earnings or economic data. One, bad news is already priced in. Two, it’s so bad that the Federal Reserve comes to rescue.

“One can see the stock market going contrary to future expectations, ” Davis wrote in a note last week. “It pays to be contrary to extreme macro readings.”

Stocks rallied Monday, sending the S&P 500 as much as 3.3% higher, after promising early results for an experimental vaccine sparked speculation economies could snap back quickly. At 21 times forecast earnings, the index was traded a multiple that’s the highest since the dot-com era.

While some legendary investors such as Stan Druckenmiller and David Tepper recently expressed concerns over stocks being over-valued, Chris Harvey at Wells Fargo said the elevated multiples can be also a function of how depressed the view is over corporate America’s earnings power. — Bloomberg

Article type: metered
User Type: anonymous web
User Status:
Campaign ID: 1
Cxense type: free
User access status: 3

Wall Street ,

   

Did you find this article insightful?

Yes
No

Across the site