Why the US share market is so strong this year
The Standard and Poor’s 500 Index (or simply the S&P 500, the well-known broad measure of US corporates and the US share market) is over 15% so far this year – not too bad. The New Zealand dollar has depreciated around 7% to now be able to buy just 59 US pennies. So, if you had some of your investments in the US sharemarket this year they would have gained more than 20% measured in New Zealand dollars – again, again, not too bad. In contrast, the S&P/NZX 50 Gross Index (NZ’s broad measure of corporate performance and the NZ share market) has gained a little more than 1% over the same period. That’s why geographic diversification is important: it enables your overall investment portfolio to capture these types of market and currency gains over time.
So, what’s happening in the US to drive such a strong share market (so far this year)? Broadly, stock markets have now adjusted to the higher-inflation and commensurate higher-interest rate environment of the past couple of years and corporate health and outlook is returning as the key driver. US Core CPI rose a lower-than-expected 0.16% in July and a somewhat more modest 4.7% for the year. New York Federal Reserve President John Williams even expressed a willingness to consider easing monetary policy next year provided inflation continues to abate, a welcome turnaround from the Fed-speak we’ve had since late 2021 when inflation suddenly burst on to the scene. Let’s take a look at the wrap of the latest US earnings reporting season and some key takeaways.
The US June quarter corporate earnings season proved better than most feared. In aggregate, S&P 500 profits fell by a modest 4% compared to those reported for the same quarter a year earlier and, most importantly, less than the 9% decline expected at the start of reporting season in July. Interestingly just over 50% of the companies reporting beat consensus earnings estimates by at least one standard deviation i.e. quite a lot, indicating “healthy” companies. Stronger revenues (+1%) and margins both contributed to this upside surprise and pleasingly some easing in inflationary pressures in there too…
Digging-in to the detail with a few sector tid-bits. Earnings in the Consumer Discretionary sector leaped 31%, the fastest growth of any sector, on the back of better-than-expected sales and margins. Strong (Northern) summer demand aided results for internet travel firms such as Booking and Expedia shrugging off concerns over the health of the US consumer.
In contrast, the Energy sector was the major contributor to the fall in aggregate S&P 500 earnings with a 51% decline in profits from a year earlier. Revenue fell 28% as the average oil price (Brent Crude) during the quarter was 30% lower than that a year ago. Analysts point out that the Energy sector poses the greatest risk to the aggregate earnings outlook given possible volatility in the market and oil prices.
The good news from the better-than-expected June quarter reports is that consensus full year S&P 500 earnings estimates for the S&P 500 have stabilized or been reconfirmed. Goldman Sachs for instance predicts 1% growth in profits for 2023 and 5% growth for 2024. We like steady earnings outlooks rather than the alternative of choppy forecasts as it signals a more predictable outlook. Resilient US economic growth, which is a key driver of corporate earnings in the US should support S&P 500 revenue growth and earnings in 2023.
So, with a really good earnings reporting season and the consensus forecasts for growth and profits etc re-confirmed for 2023 and 2024, one might have thought that the S&P 500 would have continued its good run from the start of the year and performed strongly over the past few weeks as these results were announced. After initially performing well and gaining in early July, the index is in fact 4% off its high for 2023 and at the time of writing, 1% down since 30 June. Huh, why?
The short answer is China. There are renewed and heightened fears of her economy slowing, not recovering/growing anywhere close to the levels previously anticipated following a slew of weak economic data over the past few weeks. The real estate sector has sold off as some of the major developers like Country Garden, have seen their share prices hit on the possibility of debt default. And a “slow” China certainly has an effect on global economic activity including exports to China and understandably does start to cause some concern regarding companies’ sales, revenue and therefore profitability outlook (witness Fonterra at the moment).
Anyways as I mentioned at the start, the US markets have been a good place to be this year particularly when returns are measured in New Zealand dollars. Stay there or re-allocate? Talk to your adviser but always remember that diversification is your friend.