Profit growth has proven itself to be a good safety net for US stocks — a necessity in an era where the latest Donald Trump headline can whipsaw global markets.
Corporate earnings growth has proven itself to be a more-than-capable safety net for US stocks — something that's proven to be a necessity in an era where the latest Donald Trump headline can whipsaw global markets.
Historically the biggest contributor to share price appreciation — profit expansion — has returned to the S&P 500 with a fury not seen in almost six years.
Companies in the benchmark are on pace to see 14% earnings growth for the first quarter of 2017, the most since the third quarter of 2011, according to data compiled by Bloomberg. It marks the third straight quarter of earnings growth for the S&P 500.
Corporate profit growth's role as stock market savior has been on full display during Thursday's trading, with the S&P 500 up as much as 0.5% a day after slipping 1.7% the day before, its biggest loss since September.
The selling on Wednesday proved to be a knee-jerk reaction to a report that Trump in February asked James Comey, the FBI director whom he fired last week, to drop an investigation into former National Security Adviser Michael Flynn. Now that the initial shock has passed, investors have been able to refocus on the stock market's rapidly improving fundamentals.
"Obviously the market was shaken yesterday, and it’s not the last time we’ll see that," Richard Sichel, senior investment strategist at Philadelphia Trust Co., which oversees $2 billion, said in a phone interview. "But the underpinning of good, strong corporate earnings still makes stocks a good place to be — as long as you can put up with some increased volatility."
While corporate profit expansion certainly boosts share appreciation, the US stock market showed the ability to recover even when mired in a five-quarter contraction from 2015 to 2016. This type of resilience has been a hallmark of the eight-year bull market as investors have used weakness as an opportunity to buy.
It's important to note that during that period, the stock market was being underpinned by unprecedented monetary stimulus from the Federal Reserve that made it extremely cheap to borrow money. Companies were also able to pad their share prices by repurchasing their own shares.
"If you’re a long-term investor, and fundamentals haven’t really changed to the negative, there’s no reason to panic," said Sichel. "It’s not enjoyable watching all the red on the screen, but it’s healthy. You can add to positions as stocks get less expensive."