Can Earnings Keep Moving Up?
In order for any stock market to remain in an upward trend, expectations for
earnings must move higher on a sustained basis. Since the beginning of April,
forward-looking earnings for the S&P 500 have risen sequentially on a weekly
basis (as shown in the chart below), and as a result, the index has
appreciated by 20%. But can this trend continue?
Yes, and here’s why….
Typically, when businesses are feeling optimistic about future demand for
their goods and services (and therefore corporate profits resulting from
revenues), they purchase new equipment in order to produce sufficient goods to
meet increased demand. By looking at the amount of new orders for business
equipment, investors can gauge the level of confidence that businesses have in
their future profits.
Last week’s durable goods order data showed that orders for goods expected to
last three years or longer rose for a fourth straight month (since April). And,
yesterday’s ISM data, which is a fairly accurate precursor to the next durable
goods data release, also posted sequential gains. More importantly though, is
that these increases are occurring simultaneously with a decline in inventories,
which suggests that the increase in orders is the result of increasing demand.
Moreover, as businesses begin to restock their depleted inventories in the
months ahead, manufacturing activity will get an additional boost, providing the
economy and the stock market with more fuel to rise.  Â
As can be seen in the chart below, there is a very strong correlation between
manufacturing activity and corporate profits.
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