Income-starved investors are helping prop up the long-in-the-tooth bull market (up 220% since 2009) on the S&P 500. How else can you explain the support the S&P 500 has found in the face of a really mediocre earnings season? The only way is if investors think it’s a good thing that more than half of S&P 500 companies are reporting sales below estimates to date.
Bull Market Fuelled by Lower Revenue and Mediocre Earnings
So far, just over 200 S&P 500 companies have reported first-quarter earnings and revenues. How are things looking?
While first-quarter earnings growth for S&P 500 companies is expected to be negative, the decline is expected to be lower than initial projections. So far, 73% of companies have reported actual earnings per share (EPS) above the mean and 27% have reported actual EPS below the mean. Overall, the percentage of S&P 500 companies reporting EPS above the mean estimate is equal to the five-year average of 73%. (Source: FactSet.com, April 24, 2015.)
Interestingly, revenues are down. Less than half (47%) of S&P 500 companies have reported sales above the mean estimate, while 53% have reported actual sales below the mean. Overall, the number of companies listed on the S&P 500 reporting sales above estimates is below the five-year average of 58%.
Should the 47% number hold, it would mark the lowest percentage of companies reporting revenue above estimates since the first quarter of 2013 (when the number was also 47%).Over the last 27 quarters (Q3 2008), the percentage of S&P 500 companies reporting sales above estimates has been below 50% only six times.
Full-Year Outlook Remains Weak
Going forward, for the second quarter of 2015, 26 companies (67%) have issued negative EPS guidance, while just 13 companies have issued positive EPS guidance. Overall, analysts are predicting a year-over-year decline in earnings of -3.6% and a decline in revenues of -4.4%. (Source: FactSet.com, March 16, 2015.)
Unfortunately, things aren’t expected to turn positive until the fourth quarter of 2015 when earnings are forecasted to increase a healthy 5.4% with revenues running a distant second at 0.3%. Average it all out, and for 2015, analysts are forecasting earnings to grow a measly 1.6% while revenue will decline by 2.0%.
Why the discrepancy? Normally earnings go up when revenues do. S&P 500 companies continue to manipulate their earnings with robust share buyback programs. While investors will not have first-quarter 2015 buyback data until the end of earnings season, if history is any indicator, it will be a good year for cash flush companies.
During the fourth quarter of 2014, 362 companies (72%) on the S&P 500 participated in share buybacks. This matches the five-year participation rate average for the S&P 500 of 72%.
During the quarter, companies spent $125.8 billion on shares, a year-over-year decrease of 4.0%. However, on a trailing 12-month basis, S&P 500 companies spent $564.7 billion on share repurchases; a year-over-year increase of 18%.
Bull Market on Shaky Ground
Thanks to a weakening global economy, strong U.S. dollar, and artificially low interest rates, companies listed on the S&P 500 will continue to massage their financial results with share buyback programs.
Eventually, investors will have to pay attention to underlying fundamentals. And when they do, their enthusiasm for the bull market might begin to tarnish. That’s because, according to the cyclically adjusted price-to-earnings ratio, the S&P 500 is overvalued by 70%.
The only other times the ratio has been above this level were in 1929 (the Great Depression) and 1999 (the burst of the dot-com bubble). That doesn’t mean investors should run for the exits. Though it does suggest they should be cautious about where they park their money and expect lower returns.
Until fundamentals come into play, income-starved investors will continue to cheer the mediocrity of the S&P 500 and drag it higher.