We see Brexit-related uncertainties weighing the most on already-depressed European earnings. Japanese and EM earnings estimates are also on a downswing. Bottom line: U.S. equities are the least dirty shirt of global equity markets, although high valuations keep our return expectations in check. We favor quality stocks and dividend growers. Read more market insights in my Weekly Commentary.
Market Realist – Lower return expectations
According to Lipper Alpha Insight, second quarter earnings of companies in the STOXX 600 (EZU) are expected to decline 8.5% year-over-year. It expects revenue to decline 6%. Excluding the energy sector, earnings are likely to decline 6.7%. The STOXX 600 is currently trading at a forward PE (price-to-earnings) of 16.2x.
The Japanese yen, which has been rising since late last year, has affected many companies’ earnings. The profits of major Japanese manufacturers are expected to decline by around 20% due to a stronger yen. The auto sector is the hardest hit with a 30% expected decline in profit.
Within emerging markets (EEM), the economies of Central and Eastern Europe, South Africa, and Turkey are likely to be affected by the Brexit vote. On the other hand, slowing growth in China remains a significant concern for investors. Likewise, the Brazilian and Russian economies are still facing headwinds due to lower commodity prices. All these factors are likely to keep earnings growth in many emerging markets in check.
US equities remain attractive
Against this backdrop, US equities (IWF) look like they’re in a great shape. Companies in the S&P 500 (IVV) (SPY) are likely to post positive revenue growth in the third quarter to 2.3%. Earnings growth is expected to be in positive territory in the last quarter of the year.
However, higher returns aren’t expected from the Market due to rich valuation. Currently, the S&P 500 is trading at a forward PE multiple of 18.4x, which is higher than the last five-year average PE of 14.6x and ten-year average of 14.3x.
Case for dividend growers
Dividend growers look attractive in the current scenario. Historically, dividend growers have often performed better than the S&P 500 during Market volatility while also providing a higher income. The better performance stems from the fact that many dividend growers are high-quality companies generating higher free cash flow. This allows them to grow their dividends consecutively.