SOTM 2020: State of the Markets
The comments below are an edited and abridged synopsis of an article by Lance Roberts
In President Trump’s State of the Union Address, he talked about the achievements in the economy and the markets: Low unemployment rates; tax cuts; job creation; economic growth; and record-high stock markets.
While there are many things he can claim credit for, record-high stock prices undermine the rest of the story.
The stock market should be a reflection of actual economic growth. Since corporate earnings are derived primarily from consumptive spending, corporate investments, and imports and exports, actual economic activity should be reflected in the price investors are willing to pay for the earnings being generated.
For the majority of the 20th century, this was the case, as corporate earnings were reflective of economic activity.
Since the economy grew at 6.47% annually, earnings also grew at 6.68% annually, as would be expected. The S&P 500 grew at 9% annually over that same period.
Importantly, long-term economic growth has averaged 6% annually. However, economic growth has been running below the long-term average since 2000, but has been substantially weaker since 2007, growing at just 2% annually.
Since the financial crisis, economic growth has failed to recover to its long-term exponential growth trend. However, reported earnings are deviated from what actual underlying economic growth can generate because of a decade of accounting gimmickry, share buybacks, wage suppression, low interest rates and high corporate debt levels.
Roberts discusses the spending mirage, and he believes that corporate profits tell the real story.