Carty Capital Management
Carty Capital Management



Surprisingly Good

Good Morning,


In case you may have been wondering about results in recent weeks, the averages on the surface have been doing far batter than the stocks reporting results - even as the results beat estimates.


Recall before the earnings season started we stated here, "Given markets have rallied fairly nicely into earnings, I suggest we not be surprised if we see some 'buy the rumor, sell the news activity' as reports come in...."  That's market speak for - "hey, we might be a tiny bit ahead of ourselves for traders with itchy, short-term trigger fingers."


Sadly, we watched stock after stock beat - and sometimes even beat and raise - only to see their stocks get pushed back.  Indeed, even the Barbell Economy portfolio felt the same stresses.


While I hate watching pullbacks internally - likely far more than most - as surprising as it may seem, this action is very often a long-term good sign.  It tells you the masses are still very, very nervous about how high the market is and provides insight to the weak underbelly of the theme of fear:  it can't be this good - so it must be ready to fall.


The better news?  Earnings set more records - and with zero sign of a recession near-term, the next 4-8 quarters all have record setting levels projected as well.  Already, total Q3 earnings for the S&P 500 index are on track to reach a new all-time quarterly record, surpassing the previous record reached in last earnings season.  Let's take a quick look:




On top of that - the trend for forward earnings to adapt for Q4 has remained supportive.  Recall, of often mentioned, the normal trend is for expectations to be ratcheted downward by analyst as they do not want to be blamed for a bad miss - so they often sty too conservative.  They bring estimates down and then companies beat and keep moving forward.


The pattern over the last few years has been that as the quarterly earnings reporting season gets underway, estimates for the following quarter would start coming down. The really unusual thing about Q4 estimates was they actually went up at first and have started coming down again just in the last couple of days.  That has brought Q4 growth expectations back to where they stood at the start of the period.


This is totally different from what we would typically the comparable periods of other earnings seasons over the last few years.  While the back-end of the Q3 results usually bring it a bit lower to manage the market’s expectations for the December quarter, it is nevertheless an unusually positive development.  Let's note below:




Speaking Of Earnings


I noted in the opening that we have seen the internal churn I had been concerned about as the season began.  Here is a chart to give you a sense of what that spread looks like.  Add this to the extreme action in the over-weight of the top-4 tech stocks and you get that big spread over the broad market which is skewing impressions this year a bit:





Keep in mind now - more than 2,370 companies have reported Q3 earnings results since the season officially began back on October 9th.


With just a week left until the unofficial end of the reporting period, the S&P 500 is up 1.3% since the start of earnings season. While the S&P's gain is nice to see, the underlying price action of S&P 500 stocks that have reported has been far weaker.


As the snapshot shows above, the average S&P 500 stock that has reported EPS this season has fallen 0.33% on its earnings reaction day - some far more. This means investors have been doing more selling than buying of individual stocks that make up the S&P 500 in reaction to their earnings news.  It fits well within the note above where we stated at the beginning - rallying into earnings season may feel good but it often simply gets pinched back during the reporting process itself.


Like we often say:  It's never as good as it feels or as bad as you think.


Last But Not Least...More Growth Ahead


Let's close with a positive - this time on the latest forward earnings as the season winds down.  Bottom line:  The S&P 500 forward 4-quarter estimate continues to climb.


The latest from Thomson Reuters data by the numbers:


Forward 4-qtr estimate: $142.39

P/E ratio: 18x

PEG ratio: 1.67x

S&P 500 earnings yield: 5.51%


Year-over-year growth of the forward estimate: Jumped to 10.87% this week, versus last week's 10.58%!


While the difference seems tiny, this is the 6th consecutive weekly increase.  This has happened at a time when the typical trend in the forward estimate is downward thanks to negative revisions, so as noted above, the data are trending in a fashion which is usually indicative of higher stock prices going forward.


Hence, we have an S&P 500 today trading at a forward earnings estimate of 18x, which earnings are expected to grow over 10% in the next 4 quarters, and the forward estimate keeps climbing at an increasing rate.


Not a bad thing to have…(long-term)


In case you were wondering, here is how the S&P 500 forward estimate YOY growth expectations have trended the last 6 weeks:


11/10/17: +10.87%

11/3/17: +10.56%

10/27/17: +10.18%

10/20/17: +10.13%

10/13/17: +9.81%

10/6/17: +9.52%


I remind us all that watching S&P 500 forward earnings estimates is NOT a market timing tool.  We don't know how to market time - and know no one who does.


Corrections and pullbacks can and will happen for any variety of reasons - logical, emotional - or neither.


The jump in the 10-year Treasury yield this week was somewhat unusual given the weaker stock market action so we will watch that but we remain on the end of the thinking process that rates will stay lower for longer - frustrating most looking for high returns in "safe investments" - a misnomer if there ever was one I might add.


In Summary


Demogronomics keeps you on this leading edge but requires a much larger, more patient view of the elements at work.


It's the long-term currents we need to invest upon - not the short-term waves which will assuredly always roll ashore to block the horizon.


Those waves are the noise too many will likely continue to be lost in...and the reason the long-term game is so hard to win based on fearful activities.


Play it Again Sam....


Pray for that correction.


In the end, like it or not, long-term investors have learned Demographics Rule The Long-Term Game


Generation Y is set to do much greater things - far beyond what the Boomers accomplished - or what can be defined today.


Imagine explaining an iPhone X to your buddies in 1982 - and then extrapolate that forward for the next 35 years.  We will see things look a lot more like Star Trek than we can currently imagine for all the Trekkies out there - and the UBER note above is just a slight scratch of the surface of change ahead.


Until we see you again - may your journey be grand and your legacy significant.

InvestingMike Williams