Troubles with the Profit Forecasts
January 05, 2011
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Thoughts from David Rosenberg regarding S&P earnings for 2011. From https://ems.gluskinsheff.net/Articles/Breakfast_with_Dave_010511.pdf
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The consensus now sees $96 for S&P 500 operating earnings for 2011 which would be a 14% boost from what we saw in 2010. Let’s assume that two percentage points of that come from stock buybacks. That’s fine. Companies have the cash to do that. So call it 12% EPS growth delivered from the economy. We know that the ex-U.S. economy is going to slow down this year so the adage of 50% being derived outside of America is not going to be such a bullish story in the coming twelve months. The markets have already discounted this, which is why the U.S. stock market has so vastly outperformed the rest of the world of late. America is home to dramatic fiscal and monetary ease while Europe is busy tightening the former and emerging Asia busy tightening the latter. Only the U.S. reserves the right to ease policy on both fronts but this really does little more than mask the underlying structural weaknesses in housing, jobs and state and local government finances that were so eloquently described in yesterday’s FOMC minutes.
Here’s the rub. It is not possible that a 4% nominal GDP growth is going to deliver 14% earnings growth at this stage of the profit cycle, with margins already flirting near all-time highs. This is not the early or even the mid stages of the profit cycle ― the V-shaped bounce off the lows puts it closer to the latter stages. Mid at best. Now when we are coming out of recession and margins are positioned to expand sharply even with a modest bounce in the economy, it is not rare at all to see double-digit gains in corporate earnings. It’s called the “rubber band effect”. Indeed, we saw this in 1993 when 5% nominal GDP growth translated into 29% EPS growth; in 2002 when 3.5% nominal GDP growth coincided with 18.5% profit growth; and again in 2009 when in fact a -1.7% growth rate gave way to a 15% profits rebound. But at this stage of the cycle, history shows that it would take between 6% and 8% nominal GDP growth to allow for a 14% earnings stream.
The consensus of economists, as bullish as it is, see 4% nominal GDP growth in 2011. The strategists see 14% profit growth net of buybacks. Either something has to give ― or at the least the economists and strategists should spend more time in the same room with each other.
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