US equity markets: Positive corporate profits trend continues

The US reporting season for Q3 2018 will gather momentum this week. Our indicators are pointing a very positive development among companies. The market is predicting a 19.3% growth in profits for the third quarter just ended.

The S&P 500 companies had already achieved profit growth of more than 20% in the first and second quarters of 2018. In the third quarter, profit growth is expected to have occurred in all eleven sectors of the S&P 500, with seven of them reporting a double-digit increase. The market expects a 6.9% rise in sales, with all sectors save the financial sector making a positive contribution. Another factor supporting the robustness of US profits is that the analysts’ estimates ahead of publication were reduced to a lesser extent historically.

On a sector level, energy companies are assumed to record the strongest growth (+90%). The price of oil has climbed progressively higher during the year and is on average 44% higher than the same quarter of the previous year. This should have given oil companies a considerable boost. The second-highest profit growth of 34% is anticipated in the financial sector. The insurance sector is likely to have made some contribution here; it was burdened in the prior year quarter by charges arising from hurricanes Harvey and Irma. The raw materials sector should have the third highest growth in profits (~28%). The market also expects the IT sector to have significantly increased its profits (+16.8%) and even predicts growth rates of 5% to 6% for the weakest growing sectors (utilities, property, non-cyclical consumer goods).

Looking ahead, it is clear that even though US profits will continue to grow strongly, the extremely sharp growth in profits of 20% in 2018 was positively influenced by a singular economic situation. Depending on the individual sectors, companies are benefiting from the US tax reform, the repatriation of foreign assets, the strong oil price, rising interest rates, as well as from deregulation and the promotion of trade and industry. We expect to see a respectable growth in profits in 2019 too. The varying speeds of profit growth in Europe and the US are therefore hardly likely to converge in the months ahead either.

The upsurge on the US equity markets has lasted for 9.5 years already. After the phases of weakness, in 2015 and 2016, the US market has once again upped the ante since Donald Trump was elected president. This trend faltered initially at the start of 2018 amidst concerns about a sharper rise in inflation and interest rates. While the equity markets in Europe and the emerging markets failed to develop any strong upside momentum since the collapse at the start of 2018, US equities were scaling new all-time highs. However, we have seen a consolidation in the past few days, which exerted pressure on tech stocks in particular.

Notwithstanding the consolidation, the US stock markets are trading very close to the historical high and the US economy is growing at an unprecedented pace. Unlike in Europe and the emerging markets, the global uncertainties and burdens have hardly impacted on the US companies. These are benefiting from the US tax reform, the strong oil price and from rising interest rates, among other things. This will be put to the test again in the forthcoming reporting season. While the market should therefore remain supported in terms of fundamentals, the many global flashpoints continue to represent uncertainties. The heightened valuation is likely to restrict further price development, especially as interest rates continue to rise. Sentiment on the markets is expected to remain subdued until the end of the year. We are targeting 3,000 points for the S&P 500 in mid-2019.

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