Most economic forecasters see U.S. nominal GDP growth at 4 per cent this year. But strategists see, on average, 36-per-cent corporate earnings growth. What gives?
My team at Gluskin Sheff ran some simulations back to the 1950s and found that, historically, what is normal is that every percentage point of nominal GDP growth typically generates 2.5 percentage points of corporate earnings growth.
So, if the past is prescient, that expected 4-per-cent growth in nominal GDP is only enough to boost profits by 10 per cent – imagine that this is now considered a “bearish” profit forecast even though, on average, corporate earnings rise 7 per cent annually.
In today's world of juiced-up expectations (what a far cry from the malaise a year ago), 10-per-cent profit growth just doesn't cut it. But to see such low nominal economic growth and such strong profit growth is a one-in-more-than-50 event.
Maybe the economists and strategists at Wall Street's research houses should sit down with each other. After all, that 36-per-cent surge in profits expected by the consensus would typically require a 14-per-cent boom in nominal GDP, which is basically impossible. Okay – a GDP spurt that strong was last posted in 1951, so let's be fair: It's a one-in-58 event.
In the past 75 years, there were a grand total of six years when profit growth topped 30 per cent, and guess what? That pace of profits required, on average, 10-per-cent growth in nominal GDP. And the last time that happened was 25 years ago. Either way you slice it or dice it, achieving the consensus profit forecast is an extremely low-odds scenario.
Never before – never – have we seen a 4-per-cent nominal GDP performance translate into anything remotely close to a 30-per-cent earnings profile, let alone a higher figure. There is no possible level of operating leverage that will allow for that.
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