In the 1996 movie, “Jerry Maguire,” NFL wide receiver Rod Tidwell (a client of super sports agent Maguire) screamed one of the most iconic lines in cinematic history — “Show Me the Money!”
Twenty-five years later, the stock market’s incessant rally has brought us at or near all-time record valuations. These valuations and implied higher earnings expectations were essentially screaming the same thing as Tidwell when we entered first-quarter earnings season. The market, anticipating significant growth in sales and earnings, not only wanted but needed companies to post solid results and show us the money.
Corporate America certainly did not disappoint. As the chart of the week depicts, through May 7, 87% of S&P 500 Index companies had posted positive earnings surprises in excess of Bloomberg earnings estimates. This statistic typically shows large upturns a few quarters after significant market declines. For it to reach an all-time record high is just an incredible result from a market that was in dire straits only a year ago.
Many analyst estimates have lagged the actual earnings results, as the surge in stimulus and nearly immediate bounce back in consumer demand led to much better performance for many companies broadly and across most industries.
However, for the companies posting first-quarter earnings that beat analyst expectations, Deutsche Bank reported that the median rally on these beats were significantly lower than the historical median (+0.1% vs. +0.5%) — strongly indicating just how expensive the broad stock market was and how high stock valuations had become.
So it is important to keep in mind that valuations relative to actual earnings still do matter. Higher valuations place a much greater emphasis on the necessity for continued, strong future earnings. If we get them, like we did this quarter, then the market rally can continue its happy march higher. But if either market expectations or actual results turn lower, there is a significant gap back to more normal valuations. For example, the average 10-year price-to-earnings ratio (P/E) of the S&P 500 Index is 19x. Today, its P/E stands around 30x. The P/E peaked just before first-quarter earnings at 32x and fell briefly to under 30x as higher earnings and steady prices led the multiple to contract.
Despite record positive earnings surprises, this measure remains elevated. So as we progress through the rest of 2021, you can be sure that companies will have to continue to “Show Me the Money!”
The material provided here is for informational use only. The views expressed are those of the author, and do not necessarily reflect the views of Penn Mutual Asset Management.
This material is for informational use only. The views expressed are those of the author, and do not necessarily reflect the views of Penn Mutual Asset Management. This material is not intended to be relied upon as a forecast, research or investment advice, and it is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy.
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