- UBS is cautioning investors that a looming earnings recessions could trigger a stock-market correction.
- The firm said the last six sustained contractions in S&P 500 earnings expectations led to difficult periods for stocks.
- The report also comes as all three major US indexes notched record highs this week amid optimism for a US-China trade deal.
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UBS is warning investors that a US earnings recession ahead could jolt the market into correction territory.
“There is no debate on S&P 500 forward earnings: a contraction appears imminent,” the bank wrote in a note to clients Tuesday.
The analysts said that the year-over-year growth rate for S&P 500 forward earnings has fallen to less than 1%, from 23% about 14 months ago.
The graph below depicts six instances over the last 35 years when falling earnings expectations preceded routs in the S&P 500.
“Declines in S&P 500 forward earnings are uncommon and rarely good for equities,” the firm added. “The index typically tops out just as earnings start to decline.”
As earnings expectations fall, investor sentiment dampens and the bullish outlook for stocks becomes clouded, UBS said.
It typically appears in a compression in price-to-earnings ratios – a metric that shows how much an investor would have to put into a company in order to get one dollar of its earnings – the firm added. When price-to-earnings ratios decline, it means investors want more earnings for each dollar they invest in a company.
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