Earnings for companies in the S&P500 grew by more than 20% year over year during the second quarter, repeating first quarter’s Tax Reform-boosted performance. Companies that beat estimates were rewarded, and companies that missed either on guidance or sales were pushed down, but not to the degree we saw in the first quarter. The increase in earnings has taken the market (SP 500) trailing P/E ratio down from very expensive 24.3 to modestly expensive 22.6. Sentiment remains constructive with investors mildly positive, but below average bullishness for stocks’ outlook over the next 6 months.
Economic data is coming in mixed. While GDP for the second quarter (4.1%) came in at the 5th fastest pace over the past 9 years, a large portion of this can be attributed to increased govt spending and the ‘pull-forward’ effect the Trade War tariffs have had on areas affected by increased taxes. Adjusting GDP for these areas to average still gives a GDP read in the upper 2% range which indicates growth in the second quarter was strong. The last previous 4% reads were followed by sequentially lower GDP prints over the following year however.
Real wages have stagnated year over year as inflation has increased its pace. Wages climbed 2.9% while inflation is running at 2.9% year over year. Wages had been the feared cause of inflation arising from Tax Reform stimulus. The 70% climb in oil prices, along with healthcare and housing costs and tariffs/taxes being passed along to consumers are the actual drivers over the past 12 months.
As I referred to in my January Observations and Outlook, the US Dollar was destined to climb in 2018 after an incessant decline throughout 2017 (despite many factors that should have supported the greenback). In January large traders were certain the US Dollar would continue to fall, and European and Emerging stock markets would do at least as well as US stocks. Now seven months later, indeed the US Dollar has climbed dramatically while most stock markets outside the US are negative year to date. The strong dollar has also taken its toll on precious and base metals. Given the price declines abroad (and attendant airtime and print space) and US Dollar rapid increase, pundits are talking about ‘how bad can it get’, and reasons why the US Dollar will continue to strengthen, it may be time to again take the contrarian side of the dollar argument.
Valuations in emerging markets look much more attractive at lower prices, and no one seems to own gold anymore. Vanguard recently shuttered one of its metals and mining mutual funds. The price you pay for an asset has a tremendous impact on the return one sees, and currently prices are low.