The first quarter earnings reporting period has been great.... yada, yada, yada. That's on oft-repeated acknowledgment these days (we made it last week) and it is held out as an example of why the stock market should be doing better than it is.
For the record, FactSet informs us the first quarter earnings growth rate is now 24.3% versus 23.2% last week and 17.3% at the start of the reporting period.
The stock market, however, has stumbled through the first quarter earnings reporting period, and that has many observers concerned knowing that the stock market is a forward-looking entity.
What is on the market's mind?
For starters, there is a preconceived notion that the lackluster response to the great first quarter earnings implies a collective judgment that we are at, or near, the peak for this earnings growth cycle. Accordingly, investors' willingness to pay up for every dollar of earnings isn't what it used to be.
The "peak earnings" view has been the lead story in the market narrative, but it isn't the only story.
Today, we take a brief look at some other considerations that have kept the market range-bound; and they revolve around the idea that the stock market could be heading for an early summer of discontent.
Saying there could be discontent doesn't mean the stock market is bound for a major sell-off; rather, it means simply that the market could be stuck in its own cage match, wrestling with thoughts that keep it from getting ahead of itself like it did at the start of this year.
What's on the market's mind?
- If the market can't rally on the earnings news it has been receiving, what can it rally on between now and the next earnings reporting season, which begins in mid-July?
- The possibility that tariffs will be imposed on key trading partners and allies, and that retaliatory tariffs will follow (Commerce Secretary Ross said the White House has "no intention of protracted extensions" following the recent decision to defer steel and aluminum tariffs for the EU, Canada, and Mexico until June 1)
- Concerns that rising input costs and a tightening labor market will fuel increased inflation pressures that prompt the Federal Reserve to be more aggressive tightening monetary policy
- Political rancor/political populism increasing as campaigning for the mid-term elections heats up
- A flattening of the yield curve and the underperformance of the S&P 500 financial sector (-2.4% YTD), which is inconsistent with reported optimism about the economic outlook
- The overhang of widening budget deficits and an increase in the cost of the national debt as interest rates go up
- The increased competition for stocks with higher short-term (and risk free) rates. The yield on the 2-yr note is 2.50%, which is 40 basis points higher the S&P 500 dividend yield.
- The specter of a geopolitical dust-up with Iran, and rising oil prices, if President Trump decides to pull out of the Iran nuclear deal
- An awareness that the six-months from May 1 through October 31 have had a lackluster return track record over the course of time relative to the six-month period from November 1 through April 30
What It All Means
It's not out of the realm of possibility for the stock market to find its bull market groove again.
Corporate buyback activity, a favorable resolution of trade disputes, and the denuclearization of the Korean Peninsula are all possible catalysts for the bull to find its footing.
We're less convinced about the denuclearization of the Korean Peninsula providing the ballast for a sustained breakout, only because recent press reports have suggested it is a viable possibility, and yet, the market has continued to trade sideways.
The latter point notwithstanding, a denuclearized Korean Peninsula is still better than a nuclearized one, so it would be a positive with respect to geopolitical order.
Another item that can work in the stock market's favor is a renewed focus on strong earnings growth existing alongside more palatable valuations. Ironically, that might not come into focus until there is a larger setback considering valuations are already more palatable than they were just a few months ago.
To wit, the S&P 500 trades at roughly 16.0x forward twelve-month earnings, versus 18.6x at its peak in January, and the 5-year historical average of 16.1x, according to FactSet.
The stock market, therefore, isn't overvalued right now, so much as it is overwrought about what may come. Accordingly, very little return has come out of the great... yada, yada, yada.