Why there's still strong support for equities

Thought of the day

by Chief Investment Office 02 Feb 2018

America's technology titans turned in a mixed set of results yesterday, with Amazon impressing and Alphabet disappointing. That caused the S&P 500 to give up early gains to trade down on the day.

But while investor focus on these high profile firms is understandable – Alphabet, Amazon, Apple, Facebook and Microsoft account for about 23% of S&P 500 market capitalization – overall the fourth quarter earnings season is pointing to strong support for equities:

  • With more than half of S&P 500 companies having reported, earnings per share (EPS) growth is tracking slightly above our 13–15% estimate, with a greater than average number of companies exceeding expectations. Looking ahead, we expect 16% growth this year, half of which is from the benefits of tax reform.
  • Encouragingly, 4Q earnings are being driven by 7% growth in revenue – the fastest in five years – which suggests solid demand. Strength in sales and EPS is also broad-based, and is strongest in cyclical and financial stocks.
  • Earnings, not rising valuations, are underpinning the market’s gains. On average, companies that have reported fourth quarter results have revised up their 2018 EPS estimates by 8%. Since mid-November, earnings estimates have increased by 8–10%, in line with the rise in the S&P 500, leaving the forward price-earnings ratio stable at around 18x.

So while recent equity gains have raised concerns that the market has run ahead too quickly, corporate earnings point to a solid underpinning to the rally. We remain overweight global equities.

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