As the stock market hits another new all-tie high, today one of the sharpest guys in the business exposed the great illusion of surging stocks and warned, “I know the fed will step in and start buying (wink).”
A portion of today’s note from legend Art Cashin: The Earnings Illusion – Sharp-eyed Keene Little over at Option Investor did a very nice debrief on the key role of financial engineering in helping companies show earnings growth. Here is a bit of what he wrote:
Earnings announcements have driven the stock market higher with upside surprises, or at least without significant downside surprises. It’s a busy week for companies’ announcements and the expectation is for continued good news. Not that it currently matters to most market participants, but earnings aren’t actually as good as they seem on the surface. The surface results sound fantastic though – since 2009 earnings for U.S. companies have increased +265%.
SPX is up about +271% since its low in March 2009, so that’s pretty good correlation with the growth in earnings. But the trouble with earnings is that the growth has been mainly accomplished through the use of smoke and mirrors. Sales for these same companies have increased only +32%. Either companies have been extremely efficient in cutting costs (since prices haven’t increased much) or else they’ve done some financial engineering to accomplish earnings growth that is nearly 9 times sales growth.
The smoke and mirrors is of course stock buybacks, which reduces the number of shares outstanding and that in turn drives EPS higher, even if in fact earnings did not improve. With the use of nearly zero- cost borrowing companies have been the primary driver behind the buying of their own stock and hence higher prices. One could argue whether or not it’s smart for companies to be paying top dollar for their stock right now.
Unfortunately the borrowed money has not been put to productive use, such as capital investments, but instead only to buy their own stock as a way of “improving” their earnings announcements (which of course helps executive pay compensation from their stock grants/options). When that buying stops we have to wonder who will be available to buy the stock in place of the companies’ purchases. I know, the Fed will step in and start buying (wink).
For now the stock market likes the new and improved earnings announcements and this month’s rally has been in anticipation of good earnings. Comparing results to Q2 2016 is an easy comparison but comparing the coming quarter to Q3 2016 is not going to be nearly as rosy. Therefore this quarter’s earnings run (remember those in the dot.com era?) could see at least a temporary peak in the bull run.
Earnings up a whopping 265%, while sales rose only 32%. A company like IBM has seen declining revenues for 21 consecutive quarters, yet their earnings remain respectable. Lewis Carroll would have loved it.
The Cynics Are Cynical – Several cynics on the floor think the President’s transgender move may be a calculated political move, to shift the focus and discussion off the Russia/Collusion topic. We’ll know better if there’s a similar type surprise next week.
Overnight And Overseas – In Asia, Shanghai and Tokyo closed with tiny gains. Hong Kong had a moderate rally and India closed off a touch.
In Europe, equity markets saw very, very modest gains.
Among other assets, gold rose, while crude extended its rally a bit further. The dollar ticked slightly higher against the euro. Yields are a few ticks higher.
Consensus – A very busy earnings day. Stocks are a bit overbought but earnings influence cannot be ignored.
Stick with the drill – stay wary, alert and very, very nimble.
***The remarkable KWN audio interview with Gerald Celente has just been released and you can listen to it by CLICKING HERE OR ON THE IMAGE BELOW.
***ALSO JUST RELEASED: John Embry – As We March Closer To Economic Armageddon, Something Is Terribly Wrong CLICK HERE.
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