as part of our
There's no doubt the market's been on a tear, with the S&P
500 hitting its highest point in nearly five years just two weeks
If you've been keeping a keen eye on the economy, though, it
just doesn't make sense.
Don't worry. I still think we're in a real recovery. But it's
been too sluggish to merit such a radical boost in the market.
Just look at unemployment or job growth rates to see what I
Not to mention that real indicators of economic strength, like
durable goods orders - measured by the ISM Manufacturing Index -
don't support such optimism, either.
Yet despite these signs that the market should be struggling,
the forward multiples on the stock market continue to expand. The
S&P 500 now commands a forward price-to-earnings ratio of 14,
the highest since December.
So what's the deal? Well, the imbalance we're seeing comes down
to two main factors…
I've written before about the boost that more quantitative easing
would give to the market, and how the
periods around Fed announcements
generate a huge percentage of market returns.
You should also know that all this cheap money QE provides ends
up in stocks. And since stocks appreciate with any potential
inflation in the future, their value will only increases down the
#2: Corporate earnings.
Throughout this bull market, corporate earnings have continued to
It's important to note, though, that the rate of earnings growth
has slightly outpaced revenue growth. This suggests that the
impressive numbers are thanks (at least in part) to cost cutting.
And this can only take earnings so far.
The situation in Europe threatens to put more pressure on
"The pockets of strength and growth that we're seeing are coming
from consumers at home in the United States," according to Jim
Russell at US Bank Wealth Management. However, "in the aggregate,
Europe is a larger economy than the United States, and if it
continues to be quasi-recessionary for an extended period of time,
absolutely every company is going to feel the gravitational pull of
So looking forward to this earnings season, which officially
kicks off on October 9, some analysts are pessimistic about the
Of course, trying to predict total earnings is a fool's game.
But once companies start reporting next week, there are a few early
filers that we'll be watching to gauge what sort of effect Europe
will have on our market.
- We'll get some insight into the European financial markets
) reports earnings on October 17. You see, BlackRock isn't really
an investment bank, but an investment manager. So its earnings
are mainly determined by assets under management. Since it
derives 26% of its revenue from Europe, if the financial turmoil
in Europe causes real trouble, we'll see it in BlackRock's
- Next up,
) reports on October 19. The all-American burger maker actually
derives 38% of its revenue from Europe. So this will be a great
gauge for the economic health of European consumers. Keep in
mind, though, earnings could be tainted by volatile food
- Finally, while we don't expect much construction in Europe
now, we'll see just how bad the situation is when
) reports on October 24. Nearly 25% of Caterpillar's sales from
the last filing came from Europe. Let's see how far that number
falls this time around.
Bottom line: QE3 and strong corporate earnings might have bought
us some time so far. But there's no way of knowing how long the
market can rally without solid economic fundamentals backing it up.
If we don't see another round of positive earnings this quarter,
however, stocks could be on shakier ground sooner than we'd