FAST FACTS ABOUT TODAY’S ECONOMIC DATA:
- S&P 500 Fully Valued as we approach 2500.
- German Industrial Production slipped for the first time in six months in June.
- Japan’s Leading Index (106.3) at the highest level in over 3 years in June.
HEALTH CARE, TECH, AND FINANCIALS LEAD Q2 S&P EARNINGS:
As of August 3rd, 422 of the S&P 500 Index companies have reported Q2 earnings, of which 296 have beaten earnings (70.14%) and 87 have missed (20.62%), albeit on lowered estimates. Thus far, the beats have been led by the Health Care, Tech, and Financial sectors, as 43 of 50 Health Care companies that reported earnings, 45 out of the 53 Tech that reported earnings, and 50 out of the 65 Financials companies that reported earnings have beaten estimates.
STREET ESTIMATES TICK LOWER AS S&P VALUATION ASSUMES ROBUST EARNINGS GROWTH:
Note that over the past two weeks, Wall Street analysts lowered their Q2 EPS estimates by -$0.12/share to $31.03. Moreover, the street lowered their 2017 EPS estimates by -$0.23/share to $127.63 and their 2018 EPS estimates by -$0.05/share to $144.77. This implies EPS growth of +20.1% Y/Y and +13.4% Y/Y in 2017 and 2018, respectively. For the reasons mentioned above, we are still below those lofty forecasts, but we still see strong EPS growth for 2017 and 2018.
It’s important to note that Wall Street analysts are baking in 20% Y/Y earnings growth expectations for 2017, and are assuming another 13% growth on top of that for 2018. At the S&P’s current valuation, the market is placing a 17.1x forward multiple on Full Year 2018 street estimates. Street estimates are generally revised lower over time. With that in mind, the market is currently applying an unusually high multiple on street earnings estimates over the next 6 quarters. We would take the under on such lofty estimates given that the street believes energy sector earnings will DOUBLE from here, while the Financials sector will see an estimated 20% earnings growth. With oil stuck at $46 and with the yield curve flattening, it’s going to be tough to obtain street estimates in the year ahead. As we show in the table below, even if we believe street estimates and place a peak multiple of 18.5x those estimates, we are dangerously close to full S&P 500 valuation of 2532.
GERMAN INDUSTRIAL PRODUCTION DOWN -1.1% M/M IN JUNE:
According to Destatis, German Industrial Production fell for the first time in six months, down -1.1% M/M in June. Furthermore, on a year over year basis, German Industrial Production slowed to +2.5% Y/Y (versus +4.9% Y/Y previously). In the month, Manufacturing output declined -1.4% M/M and Construction output declined -1.0% M/M; however, Energy output increased +1.4% M/M.
JAPAN’S LEADING INDEX AT HIGHEST LEVEL IN OVER 3 YEARS:
According to the Cabinet Office of Japan, the Leading Index increased +1.6 points M/M to 106.3 in June. In fact, this is the highest level since March 2014. In the month, the Coincident Index increased +1.4 points to 117.2 and the Lagging Index increased +1.7 points to 118.1.
U.S. GDP: Our GDP model points toward stronger growth in the quarters ahead (+2.8% Real GDP growth in 2H 2017, and 3% growth in 2018) given improvements in workforce population growth, workforce participation, and low interest rates and energy prices. However, given that 1H 2017 GDP is currently estimated at just 2.0% growth, it will be difficult for GDP to achieve our official forecast of 3.0% for 2017.
U.S. Inflation: U.S. CPI appears to have peaked and the Fed’s preferred inflation metric, the Core PCE Deflator, slowed to +1.39% Y/Y in May (away from the Fed’s 2% inflation target). As we anniversary the drop in commodities prices, we expect headline inflation has hit a near-term peak, taking pressure off of the Fed’s current hawkish rate stance.
U.S. Federal Reserve: Given our belief that U.S. inflation peaked for the year a few months ago, we believe the FOMC will become increasingly more data-dependent. We believe the odds of another Fed hike in 2017 have come down given recent declines in inflation. The odds of balance sheet reduction should also decline as well, although the street expects balance sheet action to begin in September.
U.S. Treasuries: With headline CPI having hit a near-term peak of 2.7% Y/Y, we believe the 10-year U.S. Treasury is now range-bound through the end of the year. We would be inclined to be buyers of Treasuries if the 10-year yield were to approach its recent high of 2.63%.
U.S. Equities and Earnings: S&P 500 operating earnings will rise materially in 2017, but our yearend S&P 500 target of 2400 has already been attained. In fact, we believe the S&P is now fully valued. We continue to favor the homebuilders, given the demographic tailwind and lack of inventory and are encouraged by the improvement in pending home sales.
Argentina: In short, the economic data out of Argentina remains bad (but less bad than it was a year ago). Industrial Production rebounded +2.7% Y/Y in May (-2.6% Y/Y prior), CPI is up +23.4% Y/Y in June (+25.4% Y/Y prior), Consumer Confidence remains depressed and fell again in June, and GDP is up just +0.3% Y/Y.
Brazil: Recent data has shown Business and Consumer Confidence continue to leak and Industrial Production is down -4.5% Y/Y, but retail sales are now up +2% Y/Y and there have been modest improvement in PMI’s. With inflation trending lower, the central bank can become more dovish. Although we are evaluating Brazil for upside potential, the Bovespa Index is already trading near its all-time high.
Canada: Given concerns about Canada’s housing market (Existing home sales were down -6.7% M/M and Housing Starts fell -1.9% M/M in June ), and potential fallout from lower oil prices, we added Canada to our downside risk watch; however, so far Canada’s economic data remain healthy. Consumer Confidence remains at high levels, manufacturing PMI’s remain strong, unemployment has been in a declining trend, retail sales have been improving, and Canada’s monthly GDP continues to improve (+4.6% Y/Y in May).
Mexico: Consumer Confidence continues to improve and Retail Sales appear to be turning up as well (+4.1 Y/Y in May versus +1.4% prior). In June, Manufacturing PMI and Orders surged higher, but slowed in July. However, Inflation is still in a rising trend, Unemployment has increased and Exports have slowed.
Venezuela: We will leave this as a placeholder in the event that Venezuela ever becomes an investible market again. We are hopeful …
United Kingdom: The U.K. economy seems to be showing some cracks of late. Retail Sales have slowed materially, Consumer Confidence has deteriorated, home price gains are slowing, manufacturing PMIs trended lower in Q2 and Q2 GDP slowed to 1.7% Y/Y (+2.0% prior). Meanwhile, inflation is in an uptrend, and PMI’s improved in July. We are watching the U.K. for further deterioration.
European Union: Economic data continue to be robust in Europe despite the slight slip in Composite PMI in July. Business confidence is elevated throughout Europe and we are seeing improvement in Southern EU nations as well (including Greece). As such, we remain bullish on the Euro STOXX 50 Index.
European Central Banks: The ECB is doing exactly what we thought they would do by favoring asset purchases over furthering lowering rates into negative territory and now the ECB is facing rising inflation. The ECB has now begun to taper its asset purchases and certainly a discussion will begin on the process of how/when to raise rates. We will watch to see if ECB tapering has any meaningful impact on zero (or near-zero) interest rates throughout the continent.
Eastern Europe: We continue to believe risks remain for Eastern Europe given high Debt/GDP levels, most notably Cyprus (104%), Croatia (88%, up from 66% at the end of 2013), and Slovenia (81%). Yet, economic data have been robust this year across most of Eastern Europe.
South Africa: Political chaos and debt downgrade risk aside, South African data improved in Q2 (higher PMI’s, higher retail sales, lower inflation, and improving business confidence), however, Unemployment remains persistently high at 27.7%.
Turkey: Despite the political situation, the macro backdrop has been quite strong. Consumer confidence has been rising for months, business confidence increased in June, industrial production was up +4.1% Y/Y in May, Unemployment is turning lower again, and inflation has reversed its recent rising trend. One area to watch for signs of weakness is housing as Home Prices slowed slightly in May (still up +12.6% versus +13.1% prior) followed by a sharp decline in home sales thereafter (-8.1% Y/Y in June). Note that July manufacturing PMI slowed slightly as well.
ASIA / PACIFIC:
Australia: The RBA has cut rates twice in the past year and Australian data is holding up. So far, business and consumer confidence have been strong, and PMI’s have held up, despite weakness in commodities prices. So far, housing data remains steady, but recent data have shown some weakness. We remain neutral on Australia at this time, on concerns about China exposure but so far China is still posting strong data.
China: Recent data suggest some modest improvement in China’s manufacturing sector. Note that China Industrial profits appear to be reaccelerating, and China’s consumer and services sectors remain resilient. We continue to believe China has the levers necessary to stimulate ahead of the National Communist Party Congress later this year, but we are watching for further signs of stress within China’s credit and housing markets.
India: Indian economic activity took a nosedive in July following the new Goods and Services Tax (GST) as PMI’s fell into contractionary territory. This downturn in activity follows months of weakening durable goods sales and slowing industrial production. With the SENSEX index just off its all-time high and up 21% this year, we are monitoring India for further deterioration. Given declines in inflation, the central bank cut rates this month.
Indonesia: Indonesia’s GDP and Private Consumption Expenditures have been stable at 5% Y/Y, but Consumer Confidence and inflation appear to be turning higher. As a result, it is reasonable to assume that the central bank’s dovish policy stance (six rate cuts in 2016) may revert to a more neutral stance this year.
Japan: We have a bullish view on Japan’s Nikkei 225 given improvement in Japan economic activity, employment, and small business confidence, although the weakness in PMI’s over the past two months raises concern. Bank lending is improving on a Y/Y basis in Japan, industrial production has accelerated, and consumer confidence remains in a slow up-trend.
Russia: Russian economic data continue to suggest economic growth, although PMI’s slowed in July on the back of lower oil prices. However, Retail Sales have rebounded, Real Disposable Income and Wages have turned up, and Unemployment rate improved to 5.1% in June (4 straight months of improvement). Meanwhile, inflation is moderating, which allowed the Bank of Russia to cut rates once again. Russian equities remain the cheapest in the industrialized world and we remain bullish.
GLOBAL CENTRAL BANK SCORECARD:
MACRO TRADING IDEAS:
WEEK IN REVIEW – BEST & WORST PERFORMERS:
S&P 500 SECTOR PERFORMANCE:
BEST/WORST PERFORMING GLOBAL STOCK MARKETS:
BEST/WORST PERFORMING WORLD BOND MARKETS:
COMMODITIES MARKET PERFORMANCE:
MAJOR GLOBAL STOCK MARKETS:
MAJOR GLOBAL BOND MARKETS:
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