Viewed shorter run, my profits indicators suggest a bit of caution for the first time since the
economic recovery began in 2009. The top line or sales growth proxy has flattened short term
along with a deterioration in the number of companies reporting stronger operations and new
order rates. In turn, the indicators which suggest the direction of profit margins have also shown
some loss of momentum. Profit margins expanded through most of this year reflecting a strong
performance in my pricing power vs. cost measure. The key here was a large increase in profit
per employee as companies kept hiring and wage costs low relative to an acceleration of pricing
power. My broad measure of pricing power is now decelerating relative to costs and this will
likely continue into next year. On the plus side, the typical loss of momentum in physical volume
that follows the initial recovery surge has leveled off for the time being at a moderate rate of growth.
The trickiest component among the indicators is real volume growth which can re-accelerate in
a recovery and by so doing indicate that the economic expansion may have a longer life. One
marker you can use here is the yr/yr % change of industrial production during an expansion
period. When it drops below 3%, that is a heads up. Through Nov., the yr/yr change stands at 3.7%,
compared to nearly 6% earlier in the year.
Viewed longer term, the trends of top line growth momentum and my longer term leading indicators
suggest that profits could make a cyclical peak in the final quarter of 2012, but long experience
says take this observation with a grain of salt.
Broadly, there is sufficient capital slack in terms of excess capacity and labor and a low cost
of capital to power this expansion for another 2-3 years easily. But this capacity will not likely
be realized without an improvement in employment and real wage growth and without stronger
private sector credit growth. Moreover, reflect as well on US export sales which are up 70%
since 2005 and 42% since the recent recovery began. Export sales is the growth leader for
the US among major economic sectors. Export sales have just leveled off in the short run in a
slowing global economy and sluggish performance, if it continues will impair earnings growth.
SP 500 net per share was close to $84 in 2010, and should be somewhere around $96 this
year -- a new record and nearly 15% ahead of 2010. Net per share was far stronger this year
than I had expected on the strength of better $ employee productivity. That will be hard to
replicate next year and I look for more sudued profit margin and a more modest 7% increase
to nearly $103 for eps. The consensus for net per share in 2012 is now around $107 per
Regular readers will recall that I believe that business' current practices of low hiring and
chintzy 1-2% wage gains, while it boosts eps and exec bonuses, cheats shareholders because
it reduces economic growth visibility and investor willingness to capitalize earnings at higher
- Peter Richardson
- Retired chief investment officer and former NYSE firm partner with 50 plus years experience in field as analyst / economist, portfolio manager / trader, and CIO who has superb track record with multi $billion equities and fixed income portfolios. Advanced degrees, CFA. Having done much professional writing as a young guy, I now have a cryptic style. 40 years down on and around The Street confirms: CAVEAT EMPTOR IN SPADES !!!