Analysts are heavily influenced by recent earnings performance. So it's not surprising to see the current high earnings expectations considering the strong rebound in S&P 500 earnings over the past year. But, in a year's time, the record suggests they'll likely be wide off the mark.
A more valuable indicator of future profits may be the ISM's manufacturing report. Even though manufacturing represents a declining share of economic output, it continues to be responsible for the some of the most volatile components of GDP – and corporate profits. The graph below compares the level of the PMI Index and the year-over-year changes in S&P 500 Index earnings shifted forward by six months (the blue line).
It's this correlation between manufacturing indexes and profits that can partly explain the weakness in the global markets during the last two months. That's because the US Purchasing Managers Index is not alone in looking as if it is rolling over. Of the G7 countries, 5 domestic PMI indexes fell last month. Germany's index was unchanged and Italy's rose marginally. China, Taiwan, Singapore, and India metrics have also fallen in recent data. While these indexes still sit above 50, indicating expansion, the shared peak, mostly in April, and decline in their levels has investors worried.
Economists are responding to the softness in the leading indicators. In their most recent survey, economists told Bloomberg they expect the U.S. economy to grow 2.8 percent in the third quarter, down from 3 percent a month ago. At the same time, stock analysts have continued to increase their estimates for earnings growth.
