Investors eye US corporate record profit margins as costs rise further

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Traders work on the floor of the New York Stock Exchange (NYSE) in New York, U.S., September 22, 2021. REUTERS/Brendan McDermid

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NEW YORK, Sept 22 (Reuters) – U.S. businesses have maintained strong profit margins during the pandemic because they cut costs and passed on high prices to customers. The question is: how long can this last?

With inflation still strong, the ability of companies to maintain margins at record highs is being watched closely by some investors and strategists, as third-quarter earnings reports from S&P 500 companies are expected to arrive next month.

Much higher-than-expected earnings have been a key support for stocks this year, even as the coronavirus pandemic has dragged on. The S&P 500 Index (.SPX) is up about 17% for the year so far.

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Given how companies are managing costs, profit margins should increase in the near term, said Jonathan Golub, chief U.S. equity strategist and head of quantitative research at Credit Suisse Securities in New York.

“Companies are doing a great job of managing costs in a tough environment,” he said, and that has led to “really strong profit margins.”

“It won’t last forever, but will it last a bit longer? The answer is yes.”

For the second quarter, the operating profit margin for S&P 500 companies was estimated at 13.54%, surpassing the 13.02% in the first quarter, which was also a record high, according to data from the S&P Dow Jones Indices.

Analysts expect S&P 500 earnings to rise 29.5% in the third quarter after a whopping 96% rise in second-quarter earnings, when comparisons to a year ago were much easier, according to Friday’s IBES data from Refinitiv.

In a reversal of the recent trend, analysts cut third-quarter earnings estimates slightly, the data showed.

Businesses have faced rising costs due to coronavirus pandemic-related shortages of raw materials and volunteer workers.

BofA Securities strategists wrote in a recent note that there are signs that inflation has shifted from a tailwind to a headwind. “When married to slowing macro data, companies may find it harder to weather cost inflation,” they wrote.

A key driver for margins is the spread between costs and the ability of companies to pass on those costs, Morgan Stanley strategists wrote this week.

The gap between the consumer price index and the producer price index “has turned deeply negative as high commodity prices, rising logistics and distribution costs, and rising wages exceed final trader prices – a scenario that increases risks to corporate earnings over the next 12 months.” they said.

Recent PPI data suggests high inflation is likely to persist for some time as the lingering COVID-19 pandemic continues to put pressure on supply chains. This has led some economists to cut their third-quarter economic growth estimates.

US producer prices rose solidly in August, resulting in the largest annual gain in nearly 11 years. Read more

It all depends on what will change in the coming months.

“In the very short term here, it’s hard to read too much into these numbers,” said Sameer Samana, senior global market strategist at Wells Fargo Investment Institute in St. Louis.

If economic growth slows and wage growth slows, there is less of a problem for businesses, he said. But “it’s hard to see how things are improving from an operating margin perspective.”

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Reporting by Caroline Valetkevitch; Editing by Alden Bentley and Mark Porter

Our standards: The Thomson Reuters Trust Principles.

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