You can all take a collective sigh of relief… It appears a large asteroid, around 100 metres in diameter, “snuck up” on Earth last week without anyone noticing. An astronomer was quoted saying had it made contact with our planet, “it would have hit with over 30 times the energy of the atomic blast at Hiroshima”. Gulp.
The US equity market rose in an explosive manner last week, outperforming the other major asset classes. Asset class returns in sterling and local currency are below; the S&P 500’s strong week was a result of a better than expected results in the current earnings season.
Table 1: GBP total returns
Table 2: Local CCY total returns
Given increasingly pessimistic rhetoric emerging from the US Federal Reserve about the health of the US economy, both last week’s corporate earnings releases and the Q2 GDP figures were stronger than expected. Of 219 companies within the S&P 500 that reported by the end of last week, there was an average positive surprise for EPS (earnings per share) versus expectations of 5.27%, with Information Technology once again equity market’s shining star. Consumer Discretionary is the only sector to post a negative surprise figure with disappointing results stemming from the automotive and retail industries.
Chart 1: Earnings expectations were largely beaten across the board, with Information Technology yet again remaining the US’ shining star
However, to add further confusion to the mix, last week’s better-than-expected GDP figures were accompanied by significant annual revisions to the US national accounts that showed a significant change in two key GDP items: the first was an upward revision in labour compensation (e.g. a rise in worker’s share of corporate profits), and the second was a sharp decrease in US corporate profitability. The latter has continued to give support to the thesis that the US Federal Reserve will move to cut interest rates before the end of the year.
This paints an increasingly divergent picture with regards to what is happening in the US equity markets versus the US economy. Though over the long run US corporate earnings have been relatively correlated to equity market earnings, recent trends have seen listed companies launch record share buy-back schemes in which capital is not being allocated to productive investment projects but instead to buying a companies’ own shares.
Chart 2: While historically US corporate earnings and S&P 500 EPS have trended in the same direction, recent years has seen a growing disconnect between the two
The Federal Reserve is one of three central banks meeting this week to discuss monetary policy and markets are currently expecting it to cut rates. If interest rates remain low and investment spend is allocated productively, it is possible that the gap between S&P 500 EPS and US corporate earnings (shown in the chart above) will begin to close, however if companies continue to pursue returning record levels of cash to shareholders via dividends and share buy backs, we could very likely see US corporate earnings continue to deteriorate.
THE WEEK AHEAD (G7 + China)
Monday: Japan Retail Sales, Net Lending to Individuals, Bank of England Consumer Credit
Tuesday: Japan Unemployment, Japan Industrial Production, Bank of Japan Interest Rate Decision, France Q2 GDP, Germany Gfk Consumer Confidence, Eurozone Business confidence, Eurozone Economic Sentiment, Eurozone Industrial Sentiment, Eurozone Services Sentiment, Germany Inflation Rate, US Personal Spending, US PCE Price Index, US-China Trade Talks
Wednesday: UK Gfk Consumer Confidence, China NBS Manufacturing, China Non Manufacturing, Japan Consumer Confidence, Germany Retail Sales, Germany Unemployment Rate, Eurozone Q2 GDP, Eurozone Inflation Rate, Eurozone Unemployment Rate, Italy Q2 GDP, US Federal Reserve Interest Rate Decision, US-China Trade Talks
Thursday: China Caixin Manufacturing, Germany Markit Manufacturing PMI, Eurozone Markit Manufacturing PMI, UK Markit/CIPS Manufacturing PMI, Bank of England Interest Rate Decision, US Markit Manufacturing PMI, US ISM Manufacturing PMI
Friday: UK Construction PMI, Eurozone Retail Sales, Canada Balance of Trade, US Balance of Trade, US Non Farm Payrolls, US Average Hourly Earnings, US Unemployment
STAT OF THE WEEK: 1.3 billion tonnes – the annual amount of food lost or wasted globally, equivalent to around a third of total production (Food and Agriculture Organisation of the UN).
Data correct as at: 26/07/2019