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Stocks may recover to record levels, but earnings prospects are dimming



Dealers react after the closing bell on the New York Stock Exchange (NYSE) on August 5, 2019 on Wall Street in New York City.

Johannes Eisele | AFP | Getty Images

Under the record rally, UBS hides a worrying earnings performance that is "unusual and rarely good" for the stock market.

S & P 500 companies now expect earnings growth of less than 1% per year year on year, compared to a growth rate of 23% 1

4 months ago, the bank pointed out. Historically, declining earnings expectations were not a good sign for equities, as stock valuations over the past six years have come under pressure in the S & P 500 overall.

"There is no debate on the S & P 500 Forward Earnings: A contraction is imminent," said UBS equity strategist Francois Trahan in a note on Tuesday. "An actual decline in forward earnings usually creates a difficult environment for the entire stock market."

The Dow Jones Industrial Average posted another record on Tuesday, while the rally in the S & P 500 appeared to have a pause to insert the index changed in the session. The S & P 500 is expected to fall 3.1% in the third quarter, according to Refinitiv, after rising more than 3% in the second quarter.

While the corporate earnings season was broadly better than expected, 75% of S & P 500 companies outperformed analysts, while one-third (164) of companies issued lower earnings estimates, compared to just 68 at the start of the year.

"The breadth in expectations is equally worrying," said Trahan. "The most worrying thing is that it's unlikely that the bottom line will improve soon."

When futures contracted in the fourth quarter of 2018, the Dow and S & P 500 markets suffered a brutal correction. The worst December since the Great Depression.

"They finally recovered, but the correction, even if short-lived, was severe," Trahan said.


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