views

US EQUITIES NEED TO SEE RISING SALES

DAVID MORRISON
CFD MARKET STRATEGIST, GFT

IT IS US earnings season again. As soon as one quarter is over, investors have to begin assimilating the next set of numbers. Traders are already poring over Alcoa’s earnings – the world’s third biggest aluminium producer unofficially heralds each quarter’s reporting season, and it announced its results last night.

Once again, investors will be hoping for solid revenue increases and positive guidance from companies. It has been a feature of the last four quarters that better-than-expected profits have been achieved by aggressive cost-cutting. Business investment has fallen; inventories have been depleted while the workforce has been slashed. The most obvious evidence of this is still showing up in the unemployment numbers which, despite a positive non-farm payroll number just two weeks ago, remain stubbornly high.

As many analysts have been at pains to point out, there is a limit to the benefits achievable by cutting costs and it may be that US businesses have hit this limit. Now, more than ever, investors need to see rising sales and increased margins showing up in stronger revenue numbers. Without this, it could be difficult for equities to make further gains.

Data from Thomson Reuters showed that in the last quarter, 72 per cent of S&P 500 companies beat earnings expectations, down from 79 per cent in the previous quarter. Yet 70 per cent of S&P 500 companies beat their revenue estimates, up from 59 per cent. While some feel that targets have been set too low, estimates point to a price/earnings ratio which is consistent with the historical average of 15.7 times for the S&P 500.

But the big question is whether this means the index is fairly valued given the outlook? Does the inevitability of the tax rises and spending cuts mean that current valuations are too high, despite being near their historical averages? So while investors will be anxious to jump in if earnings and revenues impress, they should keep alert and don’t assume the coast is clear yet.