Corporate profits were “as good as it gets” during the first three months of the year, according to an analysis of earnings season by Bank of America Merrill Lynch.
The bank found that 66 percent of companies beat Wall Street’s earnings estimates, 60 percent beat on sales and 47 percent beat on both metrics. First quarter earnings per share for the S&P 500 stock index totaled $30.89, or 2 percent better than BofA’s estimate and 5 percent above analyst estimates at the beginning of earnings season.
The S&P 500 has risen to record highs this year in a rally that started after Republican Donald Trump won the U.S. presidential election in an upset victory. He campaigned on a pro-business platform of tax cuts, less regulation and trillion-dollar spending to repair roads, bridges and airports.
The S&P 500 index is up 8.4 percent this year at 2,426.20 by mid-day on June 15. It hit an intraday record of about 2,446 two days.
“Earnings came in above analysts’ expectations across all sectors except telecom, with the biggest beats in energy and industrials and the biggest industry-level beats in banks, machinery and media,” Savita Subramanian, head equity and quant strategist at BofA, said in a June 14 report.
She noted that multinational companies performed best because of strong overseas sales.
“Nearly 60 percent of stocks with high foreign sales exposure beat on both EPS and sales versus just over one-third of pure domestics,” Subramanian said. “Our European colleagues similarly observed a record proportion of EPS and sales beats in their region along with rising 2017 EPS expectations.”
Other observers have said the earnings performance of large multinational companies is masking weakness in the U.S. economy.
Albert Edwards, global strategist at French bank Societe Generale, said in a June 1 report that earnings reports for U.S. companies show that their overseas profits have grown but are still falling domestically. The decline may even point toward recession.
“A 24 percent year-over-year surge in net U.S. overseas profits and a 12 percent year-over-year rise in financial sector profits have disguised the fact that domestic non-financial economic profits are really struggling badly and are still down 6 percent year-over-year,” Edwards says in a June 1 report obtained by Newsmax Finance. The data he cited are from National Income and Product Accounts produced by the Commerce Department, a separate source of information than company earnings reports cited by BofA.
Edwards says U.S. companies are suffering from a rise in labor costs that may damp domestic business investment and result in a recession.
“Clearly the surge in U.S. unit labor costs … is continuing to drive the relentless decline in domestic non-financial economic profits into 2017,” he says. “This does not offer a sound footing for a recovery for U.S. domestic business investment – indeed quite the reverse.”
Business investment is a key part of calculating gross domestic product, or the total value of goods produced and services provided in a country.
“Although only 15 percent of GDP, business investment is the most volatile component of GDP and history suggests that in industrialized economies recessions are ‘caused,’ in an accounting sense, by swings in the business investment cycle,” he says.
The Federal Reserve is in the process of raising interest rates as the U.S. economy shows signs of strengthening, but that may backfire, Edwards says.
“It is worth bearing in mind, as the Fed continues to hike rates, that 10 of the 13 post-war tightening cycles have ended in recession,” he says. “Those are not good odds and I’m not sure why we should expect anything this time around?”
The Fed on Wednesday raised its target rate by 0.25 percentage point to a range of 1 percent to 1.25 percent, the highest in nine years. The central bank had cut rates to record lows of near zero percent in 2008 as the economy contracted the most since the Great Depression.
“Near-term risks to the economic outlook appear roughly balanced, but the committee is monitoring inflation developments closely,” the Federal Open Market Committee said in a statement Wednesday. “The committee currently expects to begin implementing a balance sheet normalization program this year, provided that the economy evolves broadly as anticipated.”