“I saw again how politics and economics intertwine usually with economics leading”
-Ray Dalio
Ray Dalio turned his widely-read white paper “Principles” into a recently-published book. The book version has quite a bit more meat than the white paper, especially with regard to his earlier career experiences that helped mold Bridgewater’s process and differentiated culture.
The quote was taken from Dalio’s description of the handoff between a Nifty 50-led decade of persistent economic expansion to the early 70s economic downturn which happened to be coincident with the Watergate Scandal hitting the tape in 1972.
We aren’t ones to completely ignore political catalysts with the potential to bring meaningful structural change. We’d just rather stick with, and anchor on tangible data that can be studied more directly and mathematically in a repeatable framework. We then go out and seek-out conversations and sources of alternative narratives that could alter the data-told story.
Back to the Global Macro Grind…
The 2017 comp tailwinds from a GDP and corporate earnings growth perspective were major “economic” catalysts that pushed us into QUAD 1 and QUAD 2 types of market exposures all year.
There are pros and cons to being in our seat as a non-traditional sell-side shop that runs a global macro model and strategy. One pro is that we don’t actually wear the short-term P&L associated with daily market moves - we have the utmost respect for our buy-side clients in this daily grind… One con is that our audience hangs on every word we write and shifting positions needs to be calculated and communicated very clearly. If the messaging coming from the various parts of our process doesn’t align in concise fashion, we lose people and ultimately business.
So make no mistake, earnings growth has been a very positive catalyst for the market this year and we aren’t adjusting the core exposure to #growthaccelerating this morning…
We recently circulated a mid-way earnings update for Q3 reporting season which can be accessed at the following link: Q3 Earnings Season Update | Forever to the Sky
One of the main points in the note, which was also covered in our Q4 macro themes presentation, is just how positive earnings events have been in hindsight. And we’re referring to earnings events on the whole, at the index and sector level.
When we look forward, we see a wall of tough comps into 2018 and extremely steep earnings revisions which have accelerated at a faster rate in the information technology sector. We can start to see extremely positive fundamental sentiment in an area of the market that has an extreme amount of positive momentum right now from a performance perspective.
Here is the earnings growth reality YY for pockets of the tech sector (Keith hit on this yesterday):
- S&P 500 Information Technology: +26%
- Nasdaq 100 Information Technology: +34%
- Russell 2000 Information Technology: +11%
S&P 500 information technology companies have seen earnings growth of +22% (Q1), +16% (Q2), and +26% (Q3 QTD). This momentum in earnings growth came on the back of -7% (Q1 2016), -3% (Q2 2016), and +6% (Q3 2016). A simpleton’s conclusion would point to more difficult comps coming with the caveat that the earnings event catalysts won’t print until after the conclusion of calendar Q1 2018.
We will leave the conclusion open-ended for translation or debate, but would make a few bulleted observations to wrap-up:
- Beat Rates: Now in hindsight, S&P 500 information technology earnings in 2017 have crushed earnings estimates by a much wider than usual margin. On average, earnings growth has outpaced estimates by 8.3%. For important context, especially when thinking of earnings as a market catalyst, this margin is more than double the 5yr average of a +3.9% beat rate.
- Earnings Revisions: Forward EPS revisions have been revised 20% higher in the information technology sector. This doesn’t refer to “growth rate” revisions. Actual forward 12-month EPS has been revised by 20% on the back of very positive earnings growth through the first 3 quarters.
- Forward Multiples: We made the conclusion that consensus was not bullish enough on growth. An S&P 500 market return of +15.8% YTD has led to very little forward market multiple expansion. However a look under the hood shows just how much this multiple was kept in check by positive earnings revisions in the tech sector. See our chart of the day for visual detail. The market may be up 15.8%, but as mentioned, information technology forward EPS revisions have been revised 20% higher, after 3 quarters of very positive earnings growth.
Ok, we’ll make one loosely drawn conclusion… Expectations have gotten increasingly higher for 2018 considering the wall of steep comps ahead.
Our immediate-term Global Macro Risk Ranges (with intermediate-term TREND views in brackets) are now:
UST 10yr Yield 2.29-2.44% (bullish)
SPX 2 (bullish)
RUT 1 (bullish)
NASDAQ 6 (bullish)
Nikkei 225 (bullish)
DAX 13100-13654 (bullish)
VIX 9.01-11.01 (bearish)
USD 93.80-95.01 (bullish)
EUR/USD 1.15-1.17 (bearish)
YEN 113.02-114.63 (bearish)
GBP/USD 1.30-1.32 (bullish)
Oil (WTI) 53.05-57.95 (bullish)
Nat Gas 2.80-3.23 (bullish)
Gold 1 (bearish)
Copper 3.06-3.20 (bullish)
AAPL 168.04-178.79 (bullish)
AMZN 1080-1154 (bullish)
FB 176-183 (bullish)
GOOGL 1014-1066 (bullish)
NFLX 193-202 (bullish)
TSLA 291-333 (bearish)
Good Luck Out There Today,
Ben Ryan
Macro analyst
