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US Q2 earnings: Headwinds aplenty but the bulls in control

The bulls are in firm control of movements in markets, and we can see this quite cleanly in various US equity markets.

All trading involves risk. Losses can exceed deposits.

The Wall Street Index is breaking above trend resistance drawn from the all-time high from 2015 and probability states that this break should take the index to the prior high of 18,365 and beyond fairly rapidly.

I have looked at the daily chart, but take the time-frame out to the weekly chart and it’s hard to be anything but bullish. Clearly, if you take the focus away from price action and the technical set-up towards more classic fundamental drivers, the US equity markets are expensive, with the Dow Jones index trading on a consensus price-to-earnings ratio of just shy of 17x and the S&P 500 closer to 18x. These are both historically elevated levels, but I am not sure market participants are too concerned, and CFD traders should be more focused on the underlying trend and aligning positioning to this.

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If we focus on the market internals, 50% of Wall Street companies are at four-week highs, while 100% of stocks are above the ten-day average. This shows excellent participation in the move higher of late, which in my mind is clearly bullish. 72% of companies in the index are above the medium-term 50-day moving average, and while this is elevated, it is not at a level that suggests the market is pricing in euphoria. From an internal perspective, the US equity markets have further upside.

To get the bulls really excited, we are going to need to see earnings improvement. If we broaden the perspective out to the S&P 500, analysts are expecting adjusted earnings per share to fall around 3% (year-on-year), with the big drag coming from energy and materials. Interestingly, this will be the seventh consecutive quarterly earnings declines and from this perspective, it’s incredible to think US equity markets are testing the all-time highs. Staying sector-specific, any actual earnings growth will likely be seen in consumer discretionary, telco, utilities and health care.

This week we get a number of key US companies reporting, but for the Wall Street Index, the key name to watch this week is JP Morgan on Thursday. There are a number of companies from the S&P 500 report, so we may see the S&P with its broader market capitalisation weighted index drive sentiment. It will be interesting to see how much of a headwind the USD plays in this quarterly report, given the trade-weighted USD has gained roughly 5% since Q2 2015. Oil prices were also around 25% lower from Q2 2015 and naturally this is a key reason why energy earnings will be lower as a sector by around 80% year-on-year.

Given the Wall Street Index is weighted by the actual price of the underlying share price (as opposed to market capitalisation), the mechanics are somewhat different from the S&P 500 (or US 500). With this in mind, the top six weightings on the index are: 3M (6.68% weighting on the Wall Street index), IBM (5.82%), Goldman Sachs (5.67%), UnitedHealth (5.33%) Home Depot (5.06%) and Boeing (4.90%). Keep an eye on the economic calendar for when they report.

Good earnings are clearly needed to justify such an elevated market valuation, but we also need to consider the macro backdrop where traders continue to buy US stocks despite worries about the European banking sector amid further political risk events, a potential deterioration in UK economics and a weakening Chinese currency. Many market participants are concerned with the shaky fundamentals, but price is true and at present, the trade in US equities is clearly to be long.


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