Currently we are seeing a repeat of the late 1990s, with the US equity market powering on, while profits, as measured by the National Income and Product Accounts (NIPA or GDP accounts) have been flatlining. This dynamic is being driven by the fact that reported earnings of the S&P companies have been much more robust, which the equity market has followed – while NIPA profits have grown 10% over the last 6 years, S&P earnings have grown by 50%.

NIPA and the S&P profit measures differ in both coverage and accounting methodologies. First, NIPA attempts to capture all US corporates, while S&P focus on large listed companies. Second, NIPA measures profits from current production, and does not include capital gains and losses. Lastly, NIPA is based on data collected from corporate tax returns, while S&P earnings come from financial reports.

The positive spin on this divergence is that US industry has become more “winner take all” with large companies taking all the profits, which is a new take on the “new” and “old” economy discussion of the 90s. However, previous experience has shown that when a significant gap opens between the two measures, S&P earnings have converged back to NIPA, and NIPA profits have led S&P earnings.

This is most likely driven by two factors: NIPA is less subject to accounting trickery and therefore more likely captures the underlying fundamentals. Also, there is a limit to how much large companies can diverge from the broader economy.

The US equity market is an accident waiting to happen. When the liquidity taps are turned off, a lack of underlying profits and high corporate debt, suggest US corporates will most likely be the epicenter of the next crisis. Combined with stretched valuations, it is consistent with a circa 50% fall in US equities. 

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This wire is part of the ‘One thing investors can’t ignore in 2020’ series. To download the full ebook please click here

Jerome Lander

Succinct and to the point. This highlights one risk very well and the divergence between current market performance and underlying fundamentals. Thanks for sharing Simon.


It is fairly obvious that markets will correct when major central banks, particularly the US Federal Reserve, wind back their asset purchases and ensuing balance sheet expansion (and to a lesser extent, increase interest rates). What is less obvious is if (when?) that will happen - what will be the catalysts for the winding back of the stimulus/liquidity? Even if that happens *eventually*, markets are likely to be at far higher levels before correcting.