Earnings Trend Higher; Vulnerability Ahead?

Market Updates

Earnings Trend Higher; Vulnerability Ahead?

Mike Gibbs, Managing Director of Equity Portfolio & Technical Strategy, discusses earnings growth, technical trends, and the impact of political debate on investor sentiment.

August 24, 2017

The general environment for the equity market should remain healthy over the intermediate term with economic conditions improving, earnings growing, and monetary policy generally loose.

Despite a healthy intermediate outlook, the market may be vulnerable to normal declines in the coming weeks to several months. First, we are moving into months that have historically proven challenging for equities. Second, political debate regarding the budget and taxes will draw investor interest over the next several months. Additional setbacks to the Trump agenda may finally weigh on investor sentiment. With the White House seemingly in disarray and the President’s approval ratings very low, investor confidence seems even more vulnerable. Third, short‐term technical trends have weakened. The S&P 500 has pulled back just 2.2% from its all‐time closing high near 2480. But the S&P 600 small caps have retreated 6.7% while the mid‐caps are down 5.6%. In the process, both indexes have undercut the key 200‐day moving average. The semiconductors (a key index given exposure to many areas of the economy) were unable to produce a new price high along with the S&P 500 despite strong fundamental results during earnings season. We interpret this as a sign of buyer fatigue in this key sector. Although the S&P 500 is just 2% below its 52‐week high, the number of NYSE stocks producing new 52‐week lows has surged in recent weeks. 

Although we feel the equity market may be vulnerable to weakness in the coming weeks to months, we likewise feel the downside will be contained to a normal market drawdown in an otherwise up‐trend. As highlighted above, economic conditions are healthy on a global basis and earnings are trending higher. The overall longer‐term technical trend remains positive. Absent some dramatic shift in these readings, such an environment should be supportive for equity markets. Couple this backdrop with strong S&P 500 technical support ranging from ~2400 down to near 2300 and our expectation that weakness will be contained to normal pullbacks is reinforced. From current levels (S&P 500 2425) downside appears limited to 1‐5% or a total move of 3‐7% from the 2480 closing high.

All expressions of opinion reflect the judgment of Raymond James & Associates, Inc. and are subject to change. Past performance may not be indicative of future results. There is no assurance any of the trends mentioned will continue or forecasts will occur. Investing involves risk including the possible loss of capital. Investing in certain sectors may involve additional risks and may not be appropriate for all investors. The S&P 500 is an unmanaged index of 500 widely held stocks. The S&P SmallCap 600 Index is an unmanaged index of 600 small-cap stocks. It is not possible to invest directly in an index.

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