Morgan Stanley
  • Thoughts on the Market Podcast
  • Sep 29, 2021

Economic Surprises = Earnings Surprises


Welcome to Thoughts on the Market. I’m Jonathan Garner, Chief Asia and Emerging Markets Equity Strategist for Morgan Stanley Research. Along with my colleagues bringing you their perspectives, today I will be talking about a key recent development which is the deterioration in the global growth outlook and what it means for Asia & EM equities. It’s Wednesday, September the 29th at 7:30AM in Hong Kong.

Incoming global growth data is starting to miss expectations by a wide margin. This appears to be mainly due to the impact of Delta-variant COVID on consumer confidence, but continued supply chain bottlenecks on the corporate sector. The Global Economic Surprise Index (i.e. the extent to which top down global macro data beats or misses economists expectations) has fallen in a straight line from a level of +90 in mid-June to -24 currently. It was last this low at the end of March 2020 at the beginning of the global impact of the pandemic and before that in the second quarter of 2018 at the start of U.S.-China tariff hikes and imposition of non-tariff barriers to trade.

In short, there has been a sudden downward lurch relative to expectations from the consensus for the global macro narrative of a continued strong recovery broadening out by geography and entering a virtuous circle of rising consumption and investment. Global equity markets have wobbled recently but are still trading close to their all-time high set in early September. We think the key to understanding what happens next is to understand the relationship between Economic Surprise data and earnings revisions. We have found that changes in the Global Economic Surprise index tend to have a reasonably good leading relationship for how bottom-up analyst earnings revisions move 3 months and this in turn drives market performance.

This matters because the COVID recession and recovery have already witnessed exceptionally sharp movements in economic data (relative to consensus) and earnings estimates revisions. Indeed, they have been more extreme even than those seen at the time of the Global Financial Crisis. At a level of -24 our analysis suggests 12-month forward earnings-per-share will likely decline by around 150 basis points over the next 3 months. That may not sound like much, but it compares with a current positive quarter-over-quarter upward revision of over 500 basis points and a peak quarter-over-quarter revision of +1100 basis points in May 2021.

Within our coverage some markets have already gone through the transition adjustment to slower expected earnings revisions—most notably China. Our analysis finds that strong performance and strong revisions are positively correlated and vice versa for weak performance and poor revisions. Japan, Russia and South Africa are standouts recently for positive earnings revisions and may show some resilience to the deteriorating global situation. China, Indonesia, Malaysia and Thailand have had the worst revisions and generally poor performance. However, China also has been underperforming due to investors assigning a lower valuation to the market due to this year's regulatory reset. Amidst this recent volatility, we would continue to prefer Japan.

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With incoming global growth data missing consensus expectations, emerging markets equity earnings revisions could fall back into negative territory for the first time since May 2020.

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