~ By Michael Lombardi, MBA
Since the beginning of the year, key stock indices have been experiencing wild swings. One day they are up significantly, and the next day, all the gains made are lost. The opposite is true, too; one day down big-time, and the next day back up.
In the past, we have seen this sort of pattern develop when stocks or commodities are forming a top.
I have said it over and over again in these pages: for key stock indices to go higher, corporate earnings have to improve. But it's not happening. Profit growth for American companies is deteriorating.
As of February 6, about 300 of the S&P 500 companies have reported their corporate earnings for the fourth quarter of 2014. The blended earnings growth rate for these companies is three percent—remarkably lower than the eight percent analysts forecasted on September 30, 2014. (Source: FactSet, February 6, 2015.)
The revenue growth rate is dismal, too. So far, for the fourth quarter of 2015, revenue growth for the 300 S&P 500 companies (that have reported thus far) has come in at a paltry 1.6%. This tells me that companies aren't selling more of their products and services.
I had predicted the strong U.S. dollar and the weak world economy would catch up with American companies, and that is exactly what has happened. I believe that if we take out stock buyback programs, corporate earnings growth in the fourth quarter of 2014 would be closer to zero percent.
And the future doesn't look bright either. So far, 52 S&P 500 companies have provided a negative outlook for their first-quarter 2015 earnings report, while only 10 have issued positive guidance.
While dismal earnings growth is a concern, the relationship between the stock market and lumber prices should be a warning for investors, too. Please look at the chart below. It plots lumber prices and the S&P 500. Notice the red arrow on the chart.
Looking closely at the red arrow, since the beginning of 2014, lumber prices have been trending downward, while the S&P 500 has continued to march higher. Given the situation with poor earnings growth, the soft world economy, and what I believe is still a soft U.S. economy, it's just a matter of time before stock prices move markedly lower.
Investors should remain cautious, as the risks of owning stocks are rising and the rewards don't look great. Key stock indices are treading in dangerous waters.