Deutsche Bank’s profit indicator suggests 3Q S&P EPS had little or no growth from 2Q and the firm’s analysts believe that unless oil climbs sharply, quarterly S&P EPS will likely be $30-$31 through 1H17. The DB analysts, led by David Bianco, said in their September 9 research piece titled “Death of volatility? A risky view” that they believe 3Q S&P EPS results will not impress, with companies lowering their 2017 expectations.
8% to 10% S&P EPS decline looms
Bianco and team point out that S&P realized volatility has been extremely low for the past six weeks. However, they believe the trend is the quiet before the storm. They ascribe five catalysts to enhanced volatility this autumn, such as macro data suggesting an “L shared” capex recovery, and U.S. election and policy uncertainty.
The DB analysts believe if the Fed refuses to hike anyhow and the dollar drops materially, Energy and Industrials will justify their current trading value, while Tech, Health Care and Utilities would be the best-performing sectors at the year’s end and next year. The analysts state that high PEs typically come with higher volatility, and they now favor low PE mega-caps.
Bianco and colleagues doubt that equity volatility will stay low. They estimate that an 8% to 10% S&P decline looms.
2016 could witness another dip soon
Tracking recent volatility, the DB analysts note that the STD of annualized daily S&P price moves has been 6% since August. They highlight that only in 1964, 1993 and 1995 did the S&P not suffer a 5%+ dip from its one-year high. The DB analysts add that dips of 5%+ usually occur twice a year. They argue that though the current year has already witnessed two dips, one more dip could occur soon. They note that the PE/VIX ratio signals a complacent market and consider high PE/low VIX as very risky:
The DB analysts expected 3Q S&P EPS to be near $30 or down 1% y/y. They argue that in the absence of oil showing a strong uptrend, quarterly S&P EPS will likely to be in the area of $30 to $31 through 1H17. They add that the general expectation for 2017 S&P EPS will drop from $130 to $125-$130:
The DB analysts believe the market is wrongly priced by sector for a sustained acceleration in trend U.S. growth and that a relative revaluation of sectors is needed soon.
Of note, in their recent research report, Morgan Stanley analysts exuded confidence by raising their 12-month S&P 500 target to 2,500 as their bull case. They attribute several reasons for their liking U.S. equities. For instance, they believe the U.S. is the only major region that could witness positive EPS growth as a base case.