Earnings Growth Is Falling And Turning Negative. What This Means For Stocks

As the stock market rallies higher and is on the verge of breaking out above its 200 day moving average, the outlook for Q1 2019 corporate earnings growth is falling. Is this bad news for the stock market?

 

Let’s determine the stock market’s most probable medium term direction by objectively quantifying technical analysis. For reference, here’s the random probability of the U.S. stock market going up on any given day.

 

*Probability ≠ certainty. Past performance ≠ future performance. But if you don’t use the past as a guide, you are blindly “guessing” the future.

Falling earnings growth

Wall Street’s expectations for Q1 2019 earnings growth has been falling, and is now negative.

 

This is a very rapid decline in corporate earnings. Earnings growth exceeded 20% even in Q3 2018.

*Much of this decline is due to tougher comparisons. Earnings surged in 2018 partially due to the Trump tax cut, which resulted in a 1 time boost to corporate earnings growth.  Now that 1 year has passed since the tax cut, earnings growth is falling.

From 1990 – present, there has only been 1 other case in which earnings growth fell from more than 20% to less than 0% within 1 year.

 

Here’s a chart for the S&P in Q1 and Q2 2001, as the 2000-2002 bear market was getting started and dot-com profits evaporated.

 

n =2, so take this “long term bearish sign” with a grain of salt. But at the very least, this isn’t a bulish factor for stocks.

Breakout

The S&P is extremely close to breaking out above its 200 day moving average, which means that many trend following strategies are also close to turning bullish. This comes after the stock market is extremely oversold.

 

Such breakouts usually result in more gains for the stock market over the next 3-12 months. Traders and investors who sold into the crash are encouraged by the breakout to jump back into stocks. As they chase the stock market higher and “buy the dip”, the rally continues.

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Our discretionary outlook is not a reflection of how we’re trading the markets right now. We trade based on our quantitative trading ...

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