Valens Research US Market Phase Cycle and Conviction Longs - May 2019
The core driver of equity market appreciation is corporate earnings growth. Corporate profitability has risen each year since 2016 when as-reported accounting distortions are removed. Uniform adjusted ROA is forecast to reach all-time high levels of 12%+ in 2019 and to improve even further to 13% in 2020. Uniform adjusted earnings are forecast to grow 14% in the next two years. Continued earnings growth warrants continued bull market tailwindsCorporations are reaching a likely positive inflection in capital investment trends. Capital investment has been below trend the past several years, running at around 6%, below longer-run 8%-9% levels. However, several factors point to this changing in 2019. After years of under-investment, corporate PP&E is reaching very old levels relative to history. At the same time, capacity utilization levels in the US are reaching the higher end of recent cycle levels. Corporations need to re-invest to support increased demand. Management teams are growing more confident about investing in growth, giving reason to expect the investment to come. Investment and balance sheet growth generally leads earnings growth
Bull markets end because of credit cycles, and specifically credit destruction – no signals for that now. Without a negative credit cycle, earnings growth and stock price appreciation can continue, as they have the past nine years. Credit signals are starting to flash “yellow†for 1.5-2 years out, but are not yet throwing up a stop sign for the current market and economic cycle. Corporate credit serviceability remains robust through 2020, with cash flows that consistently exceed all obligations, and access to credit remains healthy limiting risk to earnings growth and market appreciation
Investor sentiment has moderated recently, after reaching very high levels during the rally in the first 4 months of the year. A more neutral investor sentiment environment reduces downside risk for the market
In 2009, just as the dust was settling from the last major equity and credit market crises, we launched a boutique research firm with the intention of breaking Wall Street’s biases and broken incentives:
- GAAP and IFRS have failed to provide rules for reliable financial statement reporting
- Stock analyst recommendations are not grounded in disciplined financial analysis
- Credit agencies have been set up to grossly fail in their responsibilities to investors and the public markets
- Utter lack of willingness of major research firms to employ the the most advanced forensic analysis available
We sought to provide investors and company analysts with a source of information that changed all that.
Many years later, our business model remains because little has changed on Wall Street.
- Corporate credit ratings remain years behind the fundamental underpinnings of company performance
- Stock analysts continue to make recommendations with deeply inherent biases
- Research firms have failed to break down the walls between credit, equity, and macroeconomic research
- The governing accounting bodies have created more leeway for mis-estimates and mis-classifications as financials have become unwieldy and overwhelming
The integrity of Valens Research is founded in our disciplined processes and analytics. No “star” analysts. No corporate advisory relationships. No-nonsense opinions and recommendations.
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