A quick look at a timely topic of interest - with a brief review of why it could matter to investors.

Chart of the Week

December 1, 2014

Earnings: Because I'm happy...
S&P 500 Earnings and P/E ratio

chart

Source: S&P Dow Jones, as of 11/20/14. Past performance is no guarantee of future results. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.

The bottom line:

  • The last year has been happy indeed for the biggest US companies overall: trailing 12-month operating earnings per share for 3Q14 are on track to rise over 12% vs the same period a year earlier.
  • That marks the fourth consecutive quarter of double-digit percentage growth.
  • Happier still, the S&P 500's price level increased even faster (+17.3%) over that same period.
  • As a result the price/earnings (P/E) ratio of the index expanded to 17.8x at the end of 3Q14 – up from 16.5x at the end of 3Q13.
  • What could the future hold based on current estimates? Using forecasted earnings of $133.97 for the end of 2015 and the price level on 11/24/14 [the most recent peak at the time of writing], the S&P 500's forward P/E would be only 15.4x.
  • Some see fair value in current levels—citing benign inflation, low bond yields, a better growth outlook for the domestic economy and a strengthening US$.
  • Others may view these P/E ratios as unsustainably high—arguing that profit margins are already stretched, and that slower global growth will negatively impact already sluggish revenue growth, clouding the outlook for future earnings.
  • Far fewer are willing to assert that the stock market is undervalued, but that doesn't mean that opportunities do not exist.
  • But finding them may mean digging deeper than the aggregate valuation of the index and focusing instead on the fundamentals and prospects of individual companies.

The chart:

  • The chart shows the S&P 500's trailing 12-month earnings per share and price/earnings (P/E) ratio from December 1990 through the third quarter of 2014, as well as the rolling 12-month forecasted earnings per share and forward P/E for December 2014 through December 2015.

Definitions:

The S&P 500 Index is an unmanaged index of 500 stocks that is generally representative of the performance of larger companies in the U.S. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges.

Earnings per share (EPS) is the portion of a company's profit allocated to each outstanding share of common stock. An index EPS is an aggregation of the EPS of its component companies.

The price-to-earnings (P/E) ratio is a stock's (or index's) price divided by its earnings per share (or index earnings).

The forward P/E ratio is a stock's (or index's) current price divided by its estimated earnings per share (or estimated index earnings), usually one-year ahead.


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Previous Editions

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Poll

What would be the best news for markets for the remainder of the year?








Poll

What would be the best news for markets for the remainder of the year?

Strong US corporate earnings validate US economic expansion
(36%)
Strength in the US dollar convinces the Fed to keep short rates low longer
(4%)
European Central Bank bond buying rekindles growth in European Union countries
(56%)
Growth in China strong enough to leave room for financial system and structural reform
(4%)



Previous month Poll

Which Asian country will have the strongest growth in the coming year?

Japan, as Shinzo Abe's policy initiatives take hold
(17%)
India, as Narendra Modi's new government enacts changes
(45%)
China, as Xi Jinping's reforms promote a stronger financial sector
(17%)
South Korea, as President Park Geun-hye's plan to boost growth bears fruit
(21%)