Do earnings mean anything as geopolitical uncertainties move to the front burner? Earnings and P/E ratios are what Wall Street uses for its forecasts, but will these forecasts be swamped by current events or future crises? In December, 2017, I predicted a 2018 year-end close of 2750 on the $SPX (see Chart 1), and I expected a flat and volatile year. After zooming higher in January, the market has come down to my forecast line (see Figure 2). The most recent Wall Street forecasts range from 2750-3150 (see Chart 2), spanning the upper region of my year-end forecast range. However, it turns out my main street forecast is among the most pessimistic on Wall Street.
Chart 1: My 2018 Year-End S&P 500 forecast of about 2750 turns out to be among the most pessimistic on Wall Street. This was Chart 1 from the December post.
Chart 2: The blue line is the S&P 500 monthly close. The gold vertical line is the range of Wall Street forecasts from CNBC. The Street's range traverses the upper band of estimates from Figure 1 (i.e. from December, 2017). On average, this represents a year-end EPS of $154.43 with an implied P/E of 19.19. It turns out my 2750 main street forecast is among the most pessimistic on Wall Street.
The Street's forecasts are based on assumptions implying S&P 500 2018 calendar year earnings of $155 approximately and a P/E ratio of 19 (see Chart 3). A closer look at the implied P/E ratio from individual forecasts (see Chart 4) show they are above the 5-year average 12-month trailing P/E of 19, which could prove optimistic given the potential outcomes of geopolitical events this year.
Chart 3: A scatter plot of the year-end closes and $SPX earnings per share gives an overview of the scatter in Wall Street estimates. The implied P/E ratio is shown below.
Chart 4: The price/earnings ratio implied by the data in Chart 3. Note that most P/E ratios used for Wall Street forecasts are above the 5-year average of 12-month trailing P/E. In other words, events may prove them to be too optimistic.
The market's inability to push the Dow past 25,000 is worrisome, though it has held key support this week and shown some resilience (see Chart 7). The extended consolidation since February has the potential to damage the long-term technical environment. For example, unless the $SPX can rise above 2750, the 50-day average is likely to cross under the 200-day average in the next 2~3 months (or sooner) (see Chart 5). Therefore, a lengthy consolidation (or another test of the 200-day average now around 2638) could damage the long-term trend-following underpinnings of the market, and has the potential to jeopardize the 2018 year-end forecasts for the S&P 500. We need to see a breakout above $SPX 2750 (or Dow 25,000) to reinforce the bullish case. The rise in bond yields seems to have stalled for now (see Chart 6) and that should help the bulls.
Chart 5: Unless the $SPX can challenge the intermediate highs around 2800, or the CTM can rise above 80, the 50-day average looks to be on a collision course with the 200-day average in the next 2~3 months (or sooner). The extended consolidation is likely to affect the long-term technical measurements of market breadth and trend strength.
Chart 6: As I expected last week, the US 10-year Treasury yield crashed through its trend lines from last Fall. Perhaps a broad sideways consolidation would be the next evolution for rates, and that would help the market nudge higher.
Chart 7: The market has held key support this week, and the 200-bar stochastic RSI has risen above 0.8, suggesting an up-trend in the very short term. A move past 2750 would be a welcome first step for the bulls.