Give Me One Good Reason

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by Ralph Cole, CFA
Executive Vice President of Research

Week in Review

Equity markets finished the week up by 1.5 percent, and now are up almost 7 percent for the year. This is the fourth best start to the year for the S&P 500. The U.S. Treasury 10-year bond yield continued its march higher by 6 basis points, finishing at 2.65 percent. The story of the week was continued weakness in the dollar. U.S. Treasury Secretary Steven Mnuchin said that a weak dollar was good for exports, but markets are starting to worry that the dollar is too weak.

Give Me One Good Reason

As the market continues to climb, investors are legitimately worried about why the market is just so high. Our answer would be simple — earnings. We have a saying here at Ferguson Wellman: “So goes earnings, so goes the markets.” While the market may disconnect from earnings in the short-term, over the long-term earnings are the lifeblood of equity markets.

As we approached the end of 2017, Congress was working on a new corporate tax package, and investors were wondering if those tax cuts had already been included in analysts’ expectations for future earnings. Below is a chart that details analysts’ earnings expectations for the S&P 500 in 2018.

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Typically, analysts are overly optimistic about future earnings growth and their expectations then deteriorate throughout the year. On December 15, 2017, analysts were expecting the S&P 500 to earn $145 per share in 2018, which would have been overly optimistic without tax cuts. Today, earnings expectations for 2018 are $152.68. Obviously, until the tax cuts occurred, analysts could not include them in their company models. In addition, fourth quarter earnings season has allowed companies to share what the tax cuts will mean to their bottom lines in the coming years.

The recent run-up in the market are prices rising to meet expectations in the near term. We believe that the markets have gotten ahead of themselves and are likely to cool off in the coming months.

Takeaways for the Week

  • Dollar weakness is a positive in the near term for earnings, but not a sound long-term policy
  • Earnings continue to lead the markets higher