Friday, September 21, 2012

Decelerating--or Declining--Earnings

Many observers of the stock market intuitively think that strong economic periods--and high earnings growth--are the best environment for high returns in the stock market.  

Though it may be counterintuitive, the highest returns from equities actually have come when earnings estimates are subdued.  But the basis of contrary investing is that when sentiment is depressed, stocks are cheap, and expectations are low.  Under such conditions, stocks have had their highest subsequent returns.  For the S & P 500 Index overall, the highest annual returns have occurred when forecasted earnings growth for the upcoming twelve months have been less than 4%. 

The current forecast is for only 4.8% earnings growth as of 8/31, down from a high of 21% early in 2010.  And that number will likely be even lower as of 9/30.  Over the past two days, three prominent U.S. companies--FedEx, 3M, and Norfolk-Southern-- announced that their earnings this year will not meet the expectations of securities analysts.    

While this bad news/good news development would suggest favorable future returns from stock prices, other factors have convinced me that stock prices are more likely to decline than to rise from current price levels.

Steve Lehman

S & P 500:  1458

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