Stocks will recover long before the economy

Stocks will recover long before the economy
BY THEO CASEY

We have good and bad news. The bad news? By some bearish estimates, we face a 50% fall in global corporate profits over the next two years. The good news? Despite these facts, right now is a good… scratch that…great time to buy shares.

Earnings are only one half of the story. Prices are just as important. The FTSE 350 may have fallen 37% since the peak of the bull market in 2007, but earnings have only fallen 10% so far.
By our calculations, markets have already “priced in” significant losses. Stock markets are said to be forward-looking. This means that even though earnings data will be bad for the foreseeable future, the markets will not necessarily be so.

I believe – as we saw in the 1991 and 2000 recessions – that the stock market recovery will play out in three phases. Take a look at the chart below. It is a projection of stock market returns and corporate earnings.

The orange line represents earnings – how much money the company makes. The black line represents prices – how much money the shares make for investors.

Citigroup anticipates that share prices will bottom out and start a slow recovery in the near-term. At this point earnings will still be falling. Then, expect a mild recovery in defensive stocks.
However, in phase 3, investors will become more adventurous as earnings and the economy begin to recover. It is here that the next bull market can begin.

I see prices breaking away from earnings as more and more investors eventually see the light at the end of the recessionary tunnel. Once confidence and economic forecasts improve, so too will prices.

I believe that there is money to be made by investing in cheap, defensive, high-yield stocks. Rather than a negative, you should see the gloomy sentiment as a plus. It could well prove the best time to buy.

Stock market has been the leading indicator of every economy & industry and it haven't change to date.