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Executives and Investors Are Glum and Glummer

(Bloomberg) -- Remember the green shoots. Now that the economy is far out of the red and headed to its longest expansion in a few decades, they are, apparently, becoming harder to see.

The market has generally stalled this year, reflecting a growing pessimism from investors and executives. And it’s happening despite strong first-quarter earnings and April’s robust jobs report, which recorded an unemployment rate below 4 percent for the first time in a decade. Investors, who cheered the corporate tax cuts last year, suddenly seem less certain that the savings, through buybacks and higher earnings, will flow to them. Executives are warning that costs are rising and that growth will slow. Caterpillar Inc. CEO Jim Umpleby’s observation that things could be as good as it gets has received a lot of attention, but he wasn’t the only one. CEOs of the Coca-Cola Co., IBM Corp. and others issued their own warnings.

But when you look at the numbers, it’s hard to find proof that profits are eroding. Yes, capital spending has been rising, which lowers profits in the short term for individual companies (while generally being positive for the economy), but it’s not up that much. And, as a report from Credit Suisse noted last week, much of the increase in capital expenditures is coming from the tech sector, where it was up 75 percent in the first quarter. The Credit Suisse report noted that 10 companies accounted for two-thirds of the increase in spending among S&P 500 companies in the first three months of the year. Excluding tech, capital spending rose just 13 percent in the first quarter, according to Bank of America, compared with a roughly 30 percent profit growth boost coming from the tax cuts.

While there may be reasons to worry that profits won’t be able to keep up with expectations or their current pace of growth, there is little evidence that higher borrowing costs, pricing pressure or higher wages are eroding bottom lines. For the 400 companies of the S&P 500 that have reported earnings for the first quarter, operating profit margins averaged 18 percent, up from 17.4 percent in the first three months of 2017. The average gross margin was basically unchanged.

The mood of corporate executives is often heavily influenced by stock movements. So while they might be anticipating slowing sales, rising costs and economic weakness, their anxiety could also be the product of a negative feedback loop that is reinforcing everyone’s predisposition to believe that the current long economic expansion and bull market have to end soon. 

That may ultimately turn out to be true, but that’s a hard case to make based on the current numbers.

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