Good Afternoon,


The near-term risk of the “buy the rumor, sell the news” type of summer action was timely in the notes two weeks ago.  The busiest week of the summer and the Q2 earnings season – along with very low volumes – set the stage for some internal shellacking of several big names.


Yet, new records are being set, new forward earnings continue to rise and the numbers being chalked up as 2018 foundation (pre tax reform and more regulatory burden lift) suggest a steady upside surprise remains on track.  I remain very surprised at the continuing edginess in the crowd – further exemplified last week by wrongly-perceived “risks” and the pace at which minds are changed.  The ETF battle will only grow more burdensome as time goes on.


Just for illustrative purposes, the Inccome Portfolio saw three events last week – almost entirely related to ETF reactions.  I will highlight one example and am happy to cover others if you like.  I point this out for educational purposes.  STX reported a very big miss last week.  Instantly, as tech specific ETFs were sold – and since WDC is a holding in many of those ETF’s – it too went down.  This selling did not stop even as WDC announced stellar earnings, continued growth and results which will now far exceed the numbers provided as earnings at the start of the year.  In other words, almost a picture-book report.  The result?  The stock sold off over three days by more than $10 per share – settling somewhere around 7 times earnings for 2017.  This will give you a sense of just how poor emotions can be as a judge of reality.


More Earnings Data


One thing to be very aware of as I am confident we will begin to hear banter on same.  Do NOT confuse pace of growth in earnings YOY as a bad sign for the future.  Recall Q1 of 2016 provided a very easy target for growth.  After all, oil was collapsing, write-offs were riddling the industry, banks were still dragging along and concerns abounded as the “worst start for markets in 85 years” unfolded.


Q1 this year was an easy comparable to that low number.  The percentage pace of beating the previous year will now slowly fall as that easy comparable got lapped already. In other words, Q2 2016 was better than Q1 2016.  Q3 2016 was better than Q2 and so on.  Meaning, the year or year comparable numbers will fall in percentage terms as we get further away from the easier-to-beat numbers.


Some Stats


So far for Q2, the earnings and revenue growth pace is (surprisingly) steadily going up relative to pre-season expectations. At the present tally, total Q2 earnings for the index are currently expected to be up +9.2% from the same period last year on +5.0% higher revenues.

This from Zacks:  “Please note that the +9.2% growth rate is the blended growth rate; it combines the actual growth for the 286 S&P 500 members that have reported with estimates for the still-to-come 214 index members. At the start of the quarter, the expectation was for earnings growth of +7.9%, which came down as the quarter unfolded, reaching as low as +5.6% just ahead of the start of the reporting season.”

Let’s keep in mind there are still many results which have not been reported yet.  In fact, this week is the second busiest week of the season.  Given that, we could still see actual Q2 earnings growth go above +10%.  That would follow the +13.3% earnings growth in the previous Q1 reporting season – and highlights for you that issue I note above – the pace of YOY growth will shift.


Headlines and bears will growl with fear over that “deceleration in Q2 earnings”, but try not to lose track of this fact:  earnings are on track to reach a new all-time quarterly record, surpassing the 2016 Q4 level.

The chart above provides you a highlight sheet if you will – showing the current (half still estimated) 2017 Q2 total of $292.2 billion – along with the actual earnings for the preceding four quarters and estimates for the following four periods.


Short of a recession on a grand scale, these are steady improvements.  Also note, this still does not include any headway in DC.


On that front:  DC has not changed.  No matter who is President, those who sit in Congress usually do the same thing:  Fight for votes and the power to stay there via bickering and side deals – until reality hits and “working together” is required.  That sometimes comes from market setbacks and rising fears.


Hence, the risk still of the summer swoon (I hope).  If so, be prepared to take advantage of it.


Additional Thoughts


The more subtle good news is this:  the Q2 growth we are witnessing being confirmed in earnings is broad-based and not dependent on one or two sectors. Indeed, over 75% of the major sectors of the economy are on track to produce more earnings than the year-earlier period.


Last for now, the chart below shows that estimates for the September quarter have started coming down as is normal as well.  Recall, analysts react “with caution” since 2008-2009 and do not want to be “caught” being overly optimistic.  However, the pace and magnitude of negative revisions compares favorably to other comparable periods.   Let’s check the evolution of Q3 growth expectations since the start of the Q2 earnings parade:



Sure – plenty.  But remember, this pathway and the demographic shifts unfolding for the US are slow moving waves.  They last a very long time indeed – but they demand we remain patient and disciplined – even as the summer chop can unfold.


We are hitting that stretch of the summer haze where it will get thicker.  In another 8 days or so, most of the important slice of the earnings data will be done and volumes will fall even further as third-stringers exit for the last weeks of summer.  Shrinking crowds and attention spans can surely lead to the risk of more internal chop masked by the indices and ETF/robot algos.


Let’s Stay Focused…


…on the proper target instead.


In the latest data real GDP rose 2.6% during Q2, up from 1.2% during Q1 (itself revised up from the original .7% report).  Imagine if all projections were only 70% off target?


As stated often before here, the YOY growth rate of our real GDP has been remarkably steady since 2010 – sitting right around 2.0%.  Too many refer to this as “secular stagnation.”  Sounds scary but it misses the market – don’t you think?


I stand by the idea still that we are likely to find in the future, that previous years of GDP have been under-reported.  We simply cannot keep assuming that the way we reported growth 60 years ago is still the best way to report it today.


Yes, I get the idea that the stagnation reference sells more attention but in reality, it is likely much healthier to see this instead as “secular stability.”


Note this helpful item as well from Dr. Ed, “The growth of the economy during the latest expansion looks better using the real output of the non-farm business (NFB) sector, which is essentially the same as real GDP excluding government. It’s been hovering around 3.0% since the start of the current expansion.”


In Closing…


I thought I would start the week off with two contrasting elements with all the above as a backdrop.  First, Robert Schiller was interviewed the other day about “things that concern him” as it relates to the future of the market.  Of course, there were many elements to cover – and the use of words was as you might expect.


At the end of the piece, the financial channel doing the piece had a survey.  Over 11,000 anwsered as you can see below.  I pasted in the question and the series of survey results:

In answering the question “Is the stock market about to suffer an epic crash?”, there were 150% more answers of “Yes” than “No”.  This meshes well with the continued poor AAII data we sent along last week in the latest there as well.  And you can bet the “Not Sure” answers came from those who were not invested either.


The contrast?


This little snippet from the weekend issue of Barron’s showing insider buy and sell activity. The earnings season may be causing lots of reasons for knee-jerk reactions in the minds of short-term algo traders – but insiders?  Well, they seem to see deals on the horizon:

Think demographics – not economics – we are in great shape.


Patience remains the tougher requirement though – especially during the summer churn.


Earnings seasons are always choppy – good and bad.


Classic risks of buy the rumor, sell the news stuff just as noted ahead of time.  Sadly, one needs to just trudge through them.


Enjoy the beach and travel plans ahead.  Time with loved ones and friends is sacred – enjoy, be well and please travel safe!


Until we see you again, may your journey be grand and your legacy significant.