Author: Alastair George
In mid-September we shifted from a cautious to neutral stance on global equities. While this was based on multiple factors, the reasons for becoming less risk-averse was the sea-change in global monetary policy and a sense that the peak in tension in both the US/China trade dispute and Brexit had passed by. Nevertheless, despite new record highs for US stocks and a meaningful improvement in investor sentiment in Europe, earnings forecasts continue on a downward trend, at least for now. We do not change our equity outlook from neutral, but highlight that the recent rally remains based on expectations of improving data, rather than any actual improvement in the outlook to date.
According to our calculations, the trend for downgrades which established itself around April of this year remains in place. On the basis of the median rather than weighted average revision, the total downgrade from initial consensus forecasts of October 2019 has been just over 10% in each of the UK, Europe ex UK and emerging markets (Exhibit 1). US estimates have shown greater resilience with a total downgrades of just 6%. It does appear to be the case that the corporate sector outside the US has suffered proportionately greater impact from global trade tensions.
Exhibit 1: Profits forecast downgrades have been prevalent for most of 2019
Source: Refinitiv, Edison calculations. Index is comprised of median weekly change in 2019 profits forecasts
Forecast earnings growth for 2019 as a result is muted with the median stock in the UK now forecast to deliver just 2% EPS growth, equities in Europe ex-UK 6% and US equities 7%. Emerging markets have also fared poorly, with the initial median estimate for 2019 EPS growth of 14% fading steadily over the course of the year to just 6%, in-line with the US market.
It is therefore difficult to argue that the recent bounce in equity markets reflects greater optimism in terms of corporate profits growth, where consensus forecasts remain on a downward trend. In our view given the lags associated with the relatively recent easing of monetary policy it would in any case be somewhat premature to expect improvements in the economic data at this stage.
Instead, we believe investors are quite rationally attempting to bridge the gap between now and the anticipated turn in economic time-series. Based on historical studies of the delayed impact of changes in monetary policy, such an improvement could be as early as Q4 or as late as the end of Q120. Nevertheless, as market prices rise while the incoming data remains weak, the scope for disappointment in terms of the timing of an improvement in the fundamentals only increases. We remain neutral on global equities, with the risks still balanced between the weak trends in survey data and corporate profits expectations and the positive impact of looser monetary policy.