Earlier this week, Standard & Poor’s announced that it expects corporate profit growth in the U.S. to continue to slow over the next two quarters, with the largest drag coming from the consumer discretionary and utilities sectors.
S&P estimates that second-quarter operating profits for companies that comprise the S&P 500 Index will rise 5.7 percent from the year-ago period, after growing 7.8 percent during the first quarter. For the third quarter, S&P is estimating operating earnings to rise only 2.4 percent — the slowest rate since the first quarter of 2002.
As you can see in the chart, there is a strong relationship between corporate profits and stock prices. When profits rise, stock prices also tend to rise, but when profits top out and begin to trend lower, equity prices usually begin to falter.
Although the continuing string of corporate buybacks and private equity firm acquisitions of publicly traded companies may keep stock prices afloat over the near-term, we think stock prices could fall sharply within the next six months if corporate profits do continue to slow.
With long-term interest rates now increasing and the possibility of a Fed rate hike if inflationary pressures continue to mount, there are more and more signs of an impending market top between now and the end of 2007.
For those of you who want to protect investment gains, we suggest you consider ignoring the Wall Street "experts” and the talking heads on CNBC whose comments seem to convey that the economy is still in good shape and that stock prices will continue to rise.
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