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By New_Deal_democrat November 27, 2015 11:22 am
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Corporate profits as a leading indicator for stock prices: Q3 profits update

This is an update as to a relationship I have written about a number of times already.

The relationship is straightforward:  if corporate profits are a long leading indicator for the economy, and stock prices are a short leading indicator, then logically corporate profits should lead stock prices at least in terms of direction, if not necessarily in terms of volatility.  Since we now have 3rd quarter average stock prices, let's update this data.
 Let's look at this two ways: YoY and in absolute terms.  First, here is the YoY% change in corporate profits (blue) vs. the YoY% change in the S&P 500 averaged over each quarter (red):g
Now let's look at corporate profits and stock prices in absolute terms.  The following graph norms corporate profits (blue), as well as stock prices (red), to 100 as of the last peak, Q4 2007.  Since the beginning of 2012, corporate profits have only risen a little over 10%, while the S&P index shot up by more than 50%, becoming as fully valued as just before the last recession this year:
This gives us some perspective on relative valuations - as a percentage of deflated corporate earnings, stocks are roughly in the same status as they were in late 2006 and in 2007.  None of this suggests that stocks are in any imminent danger of a crash or a bear market, although the idea that stocks are unlikely to outperform corporate profits in the near future certainly looks like a reasonable bet.


Usual disclaimer:  I am an economic blogger. I do not pretend to be a securities analyst.This post contains  my opinions and observations. It is not professional advice in any way, shape or form and should not be construed that way. In other words, buyer beware.
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