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VOL. 127 | NO. 85 | Tuesday, May 1, 2012

David Waddell

Market Party Going Strong

By David Waddell

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Still Growing Last week offered testimonials from three key contributors to this market’s advance. We received preliminary U.S. GDP numbers, we passed the earnings season halfway point, and we obtained policy affirmations from key global central banks. When shaken and poured, these ingredients combined into a delightful cocktail that kept the stock market party going.

If the Economy Grows …

Recall our observation that with corporate profit margins peaking, further profit gains would parallel revenue gains. While management skill can accelerate aggregate profit growth, aggregate revenue growth is tied to nominal economic growth. Last week we received a “Goldilocks” report on first-quarter U.S. GDP.

Overall, the economy grew a slightly disappointing 2.2 percent. However, the consumer contribution to economic growth exceeded expectations. Spurred by increasing employment, consumer activity accounted for 2 of the 2.2 percent. Conversely, the reduction in government expenditures detracted 0.6 percent from first-quarter growth. This “handoff” from government stimulus to private sector velocity is precisely what our economic master planners had intended. Combining the above-expectations private sector activity with the below-expectations headline number and limited inflationary readings gave investors confidence in the economy, while maintaining their faith in an accommodative Federal Reserve. Not too hot, not too cold.

Then the Earnings Grow …

Shifting to corporate revenues, a 2.2 percent real economic growth rate and a 2.4 percent inflation rate amount to a 4.6 percent U.S. nominal economic growth rate (more or less), goosed a bit higher by stronger international growth rates. To date, with more than half of the S&P 500 companies reporting, revenues have grown 5.3 percent overall while earnings have grown 5 percent overall. Traditionally, 62 percent of company reports exceed analyst estimates. Currently 72 percent of all reporting companies have pleasantly surprised analysts.

If Not … Central Banks Print

With the positive economic and earnings reports leading to a virtuous rise in equities, let’s check in with our insurance agents. The Japanese central bank initiated another quantitative easing campaign last week, while the Bank of England pondered yet another. The U.S. Federal Reserve upgraded its economic and employment outlook while restating their commitment to low rates and “as needed stimulus” measures. In the previous week, Brazil and India cut rates, matching the directional bias of the developed world. The European Central Bank’s recent public statements express constraint, and yet recent Spanish bond auctions proceeded smoothly. The weight of the evidence suggests supportive powers were in play. It appears the global central bank insurance policy remains in full effect.

The S&P 500 advanced 1.8 percent on the week, recapturing the 1,400 level surrendered three weeks ago. The April pullback only discounted shares 4 percent from the March 26 closing high, and the index now stands within striking distance a new 2012 high. The current tonic of moderate economic growth, better than expected earnings growth, reasonable stock valuations and central bank reinforcement tastes swell. At the current moment, the primary threat for partygoers is the temptation to take the summer off.

David Waddell, who is regularly featured in the Wall Street Journal, USA Today and Forbes, as well as on Fox Business News and CNBC, is president and CEO of Memphis-based Waddell & Associates.

PROPERTY SALES 27 150 2,415
MORTGAGES 57 228 2,835
BUILDING PERMITS 157 441 6,509
BANKRUPTCIES 61 133 1,920