As publicly traded companies announce strong earnings growth for the last three months, markets have had a relatively muted reaction, meaning good results were expected. As the global economy heads into 2018 on a reasonably sure footing, it’s tough to keep perspective when things are looking so positive.
This time last year we were concerned that earnings growth was largely driven by cost containment rather than businesses growing their revenue. But third-quarter earnings reports in the US show that the revenue growth momentum we saw earlier in the year continues to hold up. So far sales growth is at 6.2%, contributing to an increase in earnings growth of 8.0% (as at 01.11.17), going some way to justify stock market highs.
US earnings
Sectors performing particularly strongly include technology, as well as oil and gas. It’s no surprise to see technology deliver the fastest growth, but it’s impressive nonetheless given that 7 of the 10 largest businesses in the world are tech companies. The success of the oil and gas sector is largely attributable to a terrible 2016, so the growth is really just a return to profitability. Meanwhile, the financial sector is not faring so well. Financial services firms make money when there is volatility, and so they have not done particularly well in their trading divisions. Businesses listed in the UK do not have to report quarterly earnings so there are fewer companies reporting here. So far though, the outlook is positive for those that have. Sales growth is up 6%, and earnings growth is up 4%, although we should be careful not to take this at face value as a few outliers are disproportionately affecting this reading. Good performance is largely attributable to the fact that most UK-based businesses earn a significant proportion of their revenue outside of the UK. With the weakness of the pound after Brexit, and the euro showing increasing strength, it’s no surprise that sterling profits are higher.
As markets continue to ride the crest of a wave, and global growth remains strong, it feels slightly negative to be talking about downside risk. But we wouldn’t be doing our job if we didn’t feel concerned about inflated asset prices, and what a market correction could mean for our clients. In previous months, we’ve reported an underweight position in equities – especially in the US, where prices are particularly high. Of course, being underweight in an asset class doesn’t mean we’re not invested and able to reap the rewards that are out there. But, as markets rise, it’s important to be mindful of the increasing level of risk for investors, as a negative economic surprise would lead to a larger fall in asset prices.