Hussman Weekly Market Comment: Do Foreign Profits Explain Elevated Profit Margins? No.
The bottom line is simple. Corporate after-tax profits as a share of GDP, GNP (or even net national
product if one wishes to use that number) are steeply above historical norms.
This fact can be fully explained by
mirror image deficits in household and government saving - a relationship that
can be demonstrated across decades of historical evidence. As a result of a
severe credit crisis and a sustained period of lackluster economic activity,
we’ve seen a fiscal deficit (elevated transfer payments to households and
shortfalls in tax revenue) combined with weak household saving. The combined
effect is that companies have been able to maintain revenues while paying a
very low share of income to labor and taxes.
The role of international activity on profit margins is
strictly secondary. Indeed, foreign profits of U.S. companies as a share of GNP
have been contracting since 2007, are
only about two-tenths of a percent above the 2009 low, and therefore do not
have any material role in the surge in overall profit margins we’ve observed in
recent years. Moreover, changes in foreign profits actually have a negative
correlation with changes in domestic profits. Total profits as a share of national income have no natural
reason to grow over time in any persistent way just because foreign profits
have grown.
Given the economic landscape of recent years, large
offsetting sectoral deficits and surpluses are not surprising, but they should
not be taken as evidence that the long-term profitability of the corporate
sector has permanently shifted
higher. Stocks are not a claim to a few years of cash flows, but decades and
decades of them. By pricing stocks as if current profits are representative of
the indefinite future, investors have ensured themselves a rude awakening over
time. Equity valuations are decidedly a long-term proposition, and from present
levels, the implied long-term returns are quite dim.
