Bears who warn the U.S. stock market has gone too far too fast -- the broad Standard & Poor's 500 index is up 18 percent year to date -- may not get much vindication anytime soon. Investors should see stocks continue to rally as long as corporate profits keep recovering, says market expert Joseph Mezrich (pictured), Nomura Securities International's head of quantitative research.
And the signs look good. The estimated earnings growth rate for the Standard & Poor's 500 during the fourth quarter is 216 percent, according to Thomson Reuters. Even stripping out the volatile financial sector, the other eight out of nine sectors are expected to show a blended growth rate of 7 percent. But that's still double the 3.5 percent economic growth of the U.S. economy in the third quarter. And Mezrich says it's the fact that profit growth is outpacing the U.S. economy that stocks have rallied ahead of an economic recovery.
"Earnings are growing far, far faster than the economy," says Mezrich, speaking to reporters at the Nomura offices in New York on Thursday. "You saw it in 2002, you saw it in 1991 and you're probably seeing that now." Earnings growth typically follows an economic recession. And the current situation sure supports that recent trend.
Seeing stocks recover losses is what's being being experience by major investors, who are betting that the economic recovery taking shape in the U.S. will be much stronger than is widely believed, DailyFinance's Vishesh Kumar wrote Thursday. The growing bullishness among major investors follows a wave of optimistic economic data that suggests prior views of a muted recovery might be far too gloomy.
"Profits will grow faster than the economy," says Mezrich, who joined Nomura in 2006 and previously worked at UBS and Morgan Stanley. "The real question on how to gauge the performance of stocks is how profits will perform." Mezrich typically looks at systematic factors such as momentum, value and risk to explain market movements.
The Dow Jones Industrial Average was up 53 percent, while the the S&P 500 is up 58 percent through the close of trading Thursday since the market hit its lows in March. "The March 9 rally was about risk coming out of the market," Mezrich says. "This has been extremely painful for many people. The market is coming back and likely will continue coming back."
Investors should be enthused if they look back on the last recession and recovery in 2002 and 2003, he says. "It took about a year for that to turn around, but there was extraordinary profit growth."
Profits were suppressed during the economic downturn, which is similar to what has gone on in the U.S. economy in the past 18 months. "This is a positive backdrop for when profits matter," Mezrich says. "We're maybe not yet there yet, because it's still all about risk."
Anthony Massucci is a senior writer and columnist for DailyFinance. You can follow him on Twitter at hianthony.
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