The Fog Has Lifted...
We are moving into the busiest part of the earnings season and one thing has become abundantly clear. The US economy is back and it’s back almost as good as new.
As expected, earnings so far this reporting season have been robust. The pandemic, while it raged for the better part of last year, took it’s toll for sure. Small businesses, which took the biggest hit, have not rebounded as well as the bigger, more established businesses but they will. As restrictions continue to be lifted, people will increase their traffic flow to these small businesses and with government help they hopefully will be ready to continue to grow.
For investors, the most important thing is the coming guidance and that is where 2021 separates itself from last year. Companies are giving fairly optimistic guidance across the board and that my friends, is all you need to know about the records that the Dow, NASDAQ and S&P have been setting. Companies continue to make money. They were making it during the pandemic and they will after the pandemic. The difference is now we can gauge how well a company will probably do in the next 6-12 months by their earnings forecasts. Last year, you couldn’t.
Guidance is a tricky thing for most companies. They know pretty well what there short term business prospects are. Factory orders, suppliers, cost of production, sales projections. Everything that goes into forecasts is evaluated constantly and adjustments are always made and thats where updated guidance comes from. It’s usually pretty accurate and whenever there is a miss, the stock price reacts accordingly. This has been going on for years and unless their is some cataclysmic event, I would say it is a fairly safe way of investing.
So earnings forecasts continue to show an expanding economy and taken as a whole you could be led to believe that GDP growth will be on the high side for the next several quarters. Again, I am not a big fan of GDP numbers. I don’t think it really gives an accurate picture of a very very complex economy but economists and government officials love to use it as a barometer and because I think it’s a stale reflection on data doesn’t mean they will change.
Given the rosy forecasts, what does that mean for the market? It should mean that we are still in the midst of ascending market and looking at those forecasts you would have to say that this leg of the bull market will extend for at least another six to nine months because you know, it’s all about earnings.
I take a more cautious approach. I have felt that the markets have been slightly overpriced since Mid August of last year, and yet the market continued to rise. Given my penchant for properly priced equities, I thought the correction was going to come in the third quarter of last year. It didn’t. Tech stocks rolled back a touch late last year but that was no correction by my standards. The tech sector is doing moderately well this year and their earnings (Forecasts as well) have continued to do very well.
With earnings rising, forecasts rising, and economic conditions quickly rebounding, there really is no solid reason why there should be a pullback but yet it still gnaws at me. Bond yields could be that indicator that for-tells a correction. Should the 10 year go over 2.10% will that mean that Tech stocks finally correct properly and with that, the overall market? Possibly.
What I do see happening is the economy will overheat a bit and you will see a much broader pickup of inflation. The supply chain problems notwithstanding, I think it will be more of a labor issue and thats an inflation data set that the Fed will actually react to. Higher inflation, higher interest rates. There is the road bump I am looking for.