Earnings Drives Stocks, And That's A Good Bottom Line
Since April 1991, a dollar invested annually in the average company in the Standard & Poor's 500 index averaged a 7.4% total return, driven by profits that grew an average of 7.4% annually. In 2017, 2018 and 2019, earnings growth of 11%, 12% and 10%, respectively, are expected. This why the Standard & Poor's 500 index returned 22% in 2017 and continues to climb in 2018.
At 103 months, this expansion is the third longest in modern U.S. history, behind the 120-month boom of the 1990s and the 106-month-long expansion of the 1960s. This growth cycle could set a new modern record, but you never really know what's going to happen.
The S&P 500 has broken new record-highs repeatedly since the November 2016 election. Yet plenty could go wrong: rapid growth spurred by the new tax act increases the likelihood of a Fed interest-rate policy mistake, quashing growth or accelerating an inflationary spike. Meanwhile, a constitutional crisis, the nuclear standoff with North Korea, and unspeakably nightmarish events may seem suddenly more imaginable.
A 10% or 15% drop could occur in a flash of bad news and the chance of a bear-market decline of 20% or more increases as the long bull market grows older. But the economy shows not a whiff of recession. To the contrary, smashing earnings growth is expected, and that's literally the bottom line.
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