With the S&P 500 up nearly 76% from its crisis lows of March 2009, most everyone can probably agree that this is at least some kind of a bull market. And with the upcoming earnings season expected to be strong, a great many investors expect to see the bulls continue to strut their stuff. However, history shows that at this stage of the game, strong earnings do not always lead to significantly higher prices.
The consensus thinking currently is that stocks will continue to march higher in response to relatively easy year-over-year earnings comparisons due to start coming out next week. Think back a year ago and this point becomes clear. A year ago, we weren’t entirely sure that the banking system would survive. A year ago, everyone was hunkered down in their homes eating Mac ‘n cheese and watching Netflix. And a year ago, companies were losing money hand over fist.
However, it is now clear that the banking system is safe and that the government actually made money on the so-called bank bailouts. We now see that the economy is recovering as we’ve just recently learned that the jobs market is starting to improve. And it is now clear that corporate America is making money again. As such, this quarter’s earnings results should be the very definition of “easy comps.”
Time To Buy?
But before you go out and reestablish that margin account to load up on some more Apple (AAPL), it is important to remember that the stock market game is rarely logical and/or easy. And at this point in the game it might be worth remembering that “what everyone knows may not be worth knowing” (at least from a stock market perspective).
I am not suggesting that stocks are going to start heading lower anytime soon. No, quite the contrary; when the bulls get on the kind of a roll they’re currently enjoying, it is best to avoid stepping in front of the stampede. But I would like to remind investors about a little known fact regarding earnings and the stock market. In short, history shows that by the time earnings growth becomes quite strong, the biggest part of a market move may have already occurred.
Stong Earnings May Not Mean It's Time to Buy
The idea that market performance actually declines as earnings momentum grows was pioneered by Marty Zweig. With the help of the computers at Ned Davis Research, Mr. Zweig discovered that when the year-over-year change of four-quarter earnings for the S&P 500 are 20% or higher, the S&P 500 gains just 2% per year on average.
In what can be defined as a classic case of stock market logic being completely counterintuitive, Zweig also found that when the year-to-year change of four quarter S&P 500 earnings was falling at a rate between -10% and -25%, the market enjoyed its best annual returns: +26.2% on average.
To try and make sense of these facts (and these ARE facts) we need to think about how the stock market functions. First and foremost, we need to remember that the stock market is a discounting mechanism of what traders expect to be happening six-to-twelve months down the road.
We also need to remember that the stock market goes down much faster than it goes up. So, by the time four-quarter earnings for the S&P 500 are down -10% to -25%, it is safe to say that we’ve seen a recession or a bear market, or both. Therefore, once earnings have been beaten down that far and for that long, the bear has usually run its course and things are about to improve. And it is at THIS point that the very best gains are seen in the stock market.
Compare that scenario with what we’re experiencing now. In short, traders have been discounting an improvement in both the economy and the earnings picture for the better part of the last year. And given that the average bull market has produced gains of about 81% since 1900, the fact that the S&P is up about 76% from the low suggests that at least some of the good news we’re about to get during the upcoming earnings season may be already baked into the cake.
So, Should We Sell?
So, is this the time to run out and sell everything? Is it time to start taking profits or looking at those double- or triple-leveraged short ETF’s? Nah… You see, it is also important to remember that Wall Street tend to overdo just about everything it does. And since traders are currently discounting the improvement in the economy, there is a decent chance they might overdo this move as well.
The key point I’m attempting to make is that the upcoming earnings season is expected to be very strong. However, this doesn’t necessarily mean that you should be buying heavily after good earnings news is released.
Wishing you green screens,
David D. Moenning
Founder TopStockPortfolios.com
Positions in Stocks Mentioned: None
Remember, you are in control your email alerts! You can receive alerts for up to 25 free research report alerts including:
-
FLASH Headline Alerts: Get an executive summary of the really important market-moving headlines
-
The “10.0” Report: These are the REAL Best of Breed companies
-
The Insiders Report: Want to know which stocks Corporate Insiders are buying heavily?
-
ETF Leaders Report: Don’t Miss TSP’s Weekly ETF Leaders Report
- TSP’s Daily TopStock Focus List: It’s Your Own Private Research Department
|
S&P 500 Last 5 Years |
The opinions and forecasts expressed are those of David Moenning, founder of TopStockPortfolios.com and may not actually come to pass. Mr. Moenning's opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report and on our website is for informational purposes only. No part of the material presented in this report or on our websites is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed nor any Portfolio constitutes a solicitation to purchase or sell securities or any investment program. The opinions and forecasts expressed are those of the editors of TopStockPortfolios and may not actually come to pass. The opinions and viewpoints regarding the future of the markets should not be construed as recommendations of any specific security nor specific investment advice. Stocks should always consult an investment professional before making any investment.
Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by
