S&P 500 Earnings At Record; Index Still 7% Below March, 2000 High

* Alcoa (AA), Costco (COST), JP Morgan (JPM) and Wells Fargo (WFC) report this week, with Alcoa reporting after the bell on Tuesday, Costco reports before the bell on Wednesday, and JPM Morgan and Wells Fargo report before the bell on Friday morning.

Alcoa/’s report will kick off the 3rd quarter earnings season for the S&P 500.
Here is another Schaffer’s piece about short-interest that also seems to bode well for higher equity prices. Note how the author concludes that the last time we saw this short-interest configuration, the S&P 500 rallied 30%. (Thanks to Gary Morrow of Yosemite Asset Management in San Luis Obispo, Ca for pointing this out to us.)

* Mega-cap retail – Home Depot (HD) and Walmart (WMT) continue to trade well. We bought more of both this week, although in small amounts as both stocks remain overbought. Home Depot hit a series of all-time highs in Dec ’99, Jan ’00 and March ’00 near $69 and hasnt been back there since. The stock is now closing in on this key technical resistance level. Walmart (WMT) took out its $70 high from the late 1990′s in late July, 2012. Both retailers are not that expensively-valued, but more importantly, with HD’s market cap of $95 bl and WMT’s $252 bl, I like to see this part of the market (large and mega-cap) trading better. Both companies do not report again until November ’12. (Long HD and WMT.)

* Large-cap pharma had another good week. Pfizer (PFE), Merck (MRK) and Amgen (AMGN) were added to again this past week. We like JNJ too, but we need to see an earnings catalyst. (Long PFE, MRK, AMGN and JNJ)

* Listened to a strategist on CNBC this past week -one of the many paraded on throughout the week - and this person has a $140 eps estimate for the S&P 500 in 2017, at which point he predicted that the earnings cycle will peak. Not one CNBC anchor or interviewer challenged the strategist on the prediction, in terms of how accurate he had been up till now, which sectors would lead, or which stocks would perform the best. With a $140 eps estimate, the S&P 500 is now trading at 10(x) ’17 earnings. Does it matter ? Not really. As of this weekend, ThomsonReuters is looking for 11.7% earnings growth for the S&P 500 for 2013, which would result in a $112 eps estimate for 2013 or about consistent with the current “forward 4-quarter” estimate. An $140 eps estimate off the expected $102 projected at the end of 2012 is almost a 50% increase in 6 years. A straight arithmetic average return – in terms of earnings growth – is 8% per year.

Maybe the quiet bull market this year has a basis in fundamentals after all.

* JP Morgan puts out their “Guide to the Markets” at the end of every quarter. This week was no exception. It is great information if you are a JP Morgan client as we are. As of 9/30/12, there was no significant style difference between growth and value, and even small, mid and large cap for year-t0-date or quarterly returns. While there are still big performance differences from the ’07 peak and off the ’09 low, in terms of large-cap, small-cap, the returns are very close this year, between 14% – 16%. There is no big advantage being invested one way or the other at present, and large-cap seems to be narrowing the long-term gap.

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In terms of valuation for the S&P 500, here are the valuation metrics as of 9/30/12, per JP Morgan’s “Guide to the Markets” (check our post yesterday for a quick preview):

P/E – 12.9(x)
P/B – 2.3(x)

P/CF – 9(x) (although cash-flow data on the S&P 500 is tough to find, seek and you shall find, and sure enough the S&P 500′s cash flow valuation is actually lower than I thought when we posted yesterday.)

P/Sales – 1.3(x)
PEG – 1.7(x)
Div Yield 2.3%

Although the stock market could use a 3% – 5% correction given its overbought status, the market’s fundamentals / valuation remain attractive, the technicals flash green, and the sentiment (as detailed by Schaeffer’s Investment Research) also suggests continued higher stock prices.

We look for q3 ’12 earnings to be better than expected, in the mid-single-digit growth range, and S&P 500 revenues to be slightly positive, possibly up 2%.

q3 ’12 will be the nadir for S&P 500 earnings in our opinion. One of our earnings tracking metrics has turned decidely green, in that regard, since August 1, and we’ll be out with it next week.

Written By: Brian Gilmartin