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Earnings revisions consistent with economic upturn

Posted on Wednesday, May 25, 2016 at 11:24AM by Registered CommenterSimon Ward | CommentsPost a Comment

Global economic growth prospects are judged here to be the most positive since 2012, based on recent strong narrow money trends – see previous post. The favourable monetary signal has received tentative confirmation from an upturn in a non-monetary leading indicator derived from the OECD’s country leading indicator indices – see first chart below and this post.

Another development suggestive of an upturn in economic momentum is a recent rise in the net percentage of equity analysts who are upgrading their forecasts for the earnings of the companies they cover. Such revisions are usually driven by news in current earnings and forward guidance from companies, both of which are sensitive to changes in economic growth. The revisions ratio (i.e. upgrades minus downgrades divided by the total number of earnings estimates, seasonally adjusted) for constituents of the MSCI All-Country World index has recovered significantly since early 2016 – second chart. (Note that the “normal” level of the ratio is negative, reflecting a tendency for initial analyst estimates to be too high, except immediately after recessions.)

Most market economists base their short-term growth views on business surveys, although these are sometimes coincident rather than leading indicators. Globally, such surveys remain mixed. It is possible that companies’ responses to the surveys are being influenced by widespread gloom-mongering and US / UK political uncertainty. The media often fail to report more positive survey evidence, such as last week’s CBI industrial trends poll for May, showing an above-average net percentage of firms planning to increase output.

The upshot is that the consensus is ill-prepared for the positive economic growth surprise suggested by monetary trends. Such a surprise in 2012-13 gave a significant boost to equity markets while pushing up government bond yields.

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