Return on equity is a key profitability metric for stocks, it’s useful in comparing individual companies but it can also yield insights at a benchmark or total market level, particularly when viewed across time.
Hence in this article we look at the trend in return on equity across America, Emerging Markets, and Developed Markets (ex-USA). The chart comes from the weekly report where we took a “DuPont” breakdown analysis on the drivers.
The main takeaway from the chart is a synchronized upturn in the RoE of all of the major equity markets.
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As noted we took a look at the drivers, and what's driving the upturn on all fronts is basically a rebound in profit margins which lines up with what I've talked about elsewhere on the global macroeconomic cycle (near-miss global recession in 2016, and subsequent synchronized economic rebound).
Aside from the cyclical view, on first glance there also appears to be a structural trend in force (down in all respects).
The drivers are more different when it comes to why the longer term down trend: US - declining asset turnover ratio, largely stable profit margins, and some deleveraging post-crisis. EM - declining profit margins, declining asset efficiency, yet offset with increasing leverage. DM Ex-US - lower profit margins, lower asset turnover, and deleveraging.
With leverage largely stable in the US and DM ex-US arguably the next step may be to pour the leverage back in, which combined with cyclically improving profit margins could brighten the outlook for profitability. For EM, it's hard to argue, maybe even inadvisable, for higher leverage, but with existing leverage it will take less improvement in profitability to driver better RoE.
So the return of the return on equity looks to be at least short-term sustainable and improved RoE should be supportive for equities.
This article originally appeared as a submission at See It Market
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Article by Callum Thomas, Top Down Charts