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Don't give up on the bull case just yet

·Editor focused on markets and the economy
·3 min read
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This article first appeared in the Morning Brief. Get the Morning Brief sent directly to your inbox every Monday to Friday by 6:30 a.m. ET. Subscribe

Tuesday, October 19, 2021

Jitters over inflation, supply and labor notwithstanding, the bull case is still intact

After an encouraging run of bulge-bracket bank results that kicked off third quarter (Q3) earnings, this week’s earnings — which include Netflix (NFLX) and Tesla (TSLA) — will be an acid test for a skittish market that’s still very much inclined to test its upside.

But, as the saying goes, there’s nothing to fear but fear itself. And there are certainly warning signs flaring everywhere, leading some Wall Street observers to express doubts about the current quarter and the outlook for 2022 (which, for those keeping score at home, is less than three months away).

In between golf rounds this weekend, the irrepressible Brian Sozzi enumerated several reasons why stocks are suddenly inclined to rally, even with fears associated with stagflation, supply chain and labor shortages on high boil. It may have something to do with the fact that — barring unpleasant surprises from the maker of “Squid Game” or the House that Elon Musk built — Q3 results are still mostly surprising to the upside.

According to Refinitiv, the ratio of negative earnings pre-announcements to positive ones currently sits at 0.8%. That’s well below the long-term average of 2.6, but in line with the comparable four-quarter average of 0.8%.

Meanwhile, companies are reporting earnings 15.4% above expectations — well above the long-term average of 4% and slightly less than the previous four-quarter average of 18.3%.

"I do believe that pessimism coming into earnings season... was overblown," Great Hill Capital Chairman Thomas Hayes told Yahoo Finance Live on Monday.

"If these [supply chain] issues were going to persist and be permanent, why would net profit margins be so high?” Hayes asked, adding that current profit margin estimates are near historical highs, even amid the macroeconomic headwinds.

Echoing JPMorgan Chase CEO Jamie Dimon, Hayes insisted that the current worries will be proven “a non-issue” for corporate America, and will likely “work itself out” before next year. He estimated Q3 earnings will likely grow by 40%.

To be certain, there are still plenty of reasons for concern. As if investors needed any reminders about COVID-19, Disney (DIS) said on Monday that it was reshuffling its 2022 slate of movies, with the Delta variant’s impact on movie traffic (and the comparatively weak showing of “No Time to Die”) likely factors.

While consumers might still be nervous about attending movies in person, or are at least more comfortable streaming from home, other data suggests they’re still spending on just about everything in sight.

Open wallets are contributing to what Jason Draho, head of asset allocation Americas at UBS, recently called a “positive aggregate demand shock” that keeps the bullish case for markets firmly intact.

“The surge in demand for goods during the pandemic has been a big factor pushing inflation higher. But this demand shock may also help the economy break out of the secular stagnation regime of the prior decade,” Draho wrote in an analysis last week.

“One explanation for this regime is that aggregate demand was too low and savings too high, keeping growth, inflation, and rates all low. A positive demand shock could spur a virtuous cycle of new investment and consumption that enables the economy to break out of this regime,” he added.

By Javier E. David, editor at Yahoo Finance. Follow him at @Teflongeek

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