S&P sales grew 9% over the past year, the best growth in 6 years. Earnings rose 23%, the best growth in 7 years. Profit margins expanded to a new all-time high of 10.8%. Overall, corporate results in the fourth quarter were very good. Earnings during 2017, in fact, rose as much the SPX index itself. The outlook for 2018 appears to also be strong: the consensus expects earnings to grow as much as 18% this year.
After falling into their first correction in two years, US equities regained half of their loses in just 6 days. The rebound has been strong enough and persistent enough to suggest that it has further to run. Sentiment and volatility backwardation support that view. However, a low retest over the coming weeks is still a viable risk.
Corrections during bull markets have had a strong propensity to form a double bottom. Since 1980, only 16% of corrections have had a "V bounce" where the low was never revisited. The current bull market has been different. Since 2009, about half of the corrections have had a "V bounce." So what happens this time? It's a good guess that if sentiment quickly becomes very bullish, then a retest of the recent low is probably ahead.
Prior falls like the one suffered over the past two weeks have led to quick recoveries. That likelihood is further supported by a washout in breadth, volatility and several measures of sentiment. Moreover, the fundamental backdrop remains excellent. Risk/reward is heavily biased towards upside in the near term.
The macro data from the past month continues to mostly point to positive growth. On balance, the evidence suggests the imminent onset of a recession is unlikely.
US equities have already gained more in the first few weeks of January than they do in many full years. The recent trend is being termed unprecedented, but these types of gains have happened before. The current trend is also being called unsustainable, but in most prior cases, equities have continued higher.
As 2018 begins, cash levels have fallen to the lowest level in 4 years. Allocations to global equities have risen to the highest level in nearly 3 years. In most respects, investors are now bullish. Fund managers remain underweight the US. US equities should outperform their global peers.
After just two weeks, the SPX is already within 2% of Wall Street's year-end target. By at least one measure, momentum is at a more than 20 year high: in prior instances, short-term risk/reward has been poor but longer term returns positive. Sentiment, which is exceedingly bullish, has also most often led to positive returns 3-6 months later.
US stocks will likely rise in 2018. By how much is anybody's guess: the standard deviation of annual returns is too wide to get even close to a correct estimate on a consistent basis. Earnings growth implies 6% price appreciation, but tax cuts could boost that to 13%.
All of the US equity indices made new all-time highs this week, for the first time since mid-October. SPX and DJIA have risen 8 months in a row. By some measures, investor sentiment is more bullish now than at any other time in more than a year, driven, apparently, by enthusiasm for tax reform legislation. The current uptrend is extended, and may be getting ready to take a short break, but further gains are likely during the first several months of 2018.