As mentioned in prior posts, the consumer segments of the economy have been generally performing better than the corporate segments. This pattern will likely persist if corporations continue to generate the profits required to support their current payrolls. S&P 500 earnings per share growth was negative on a year-over-year basis in Q1 and Q2 of this year, and is on pace to be negative in Q3, according to Factset estimates. Profit margins are also expected to decline for the third consecutive quarter. If this trend continues, there is a risk that corporations will have to start letting go of employees. In turn, this will possibly start to negatively impact consumption growth and will put the current economic expansion at risk. As Ned Davis Research notes in the chart below, historically profit margins tend to peak seven months prior to the unemployment rate bottoming, which occurs ten months prior to the start of recessions.
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Corporate profits in Q3 and guidance for future quarters will be key data points in determining the trajectory of the consumer as well as the overall economy.
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Senior Vice President, Investment Strategy
Boyd Watterson Asset Management, LLC