Chart of the Month (February 2023)
Chart Provided by FACTSET®
Chart Description
- The chart above illustrates the quarterly profit margin percentage for US Stocks (S&P 500) from January 2000 to December 2022
- The average profit margin over the 23-year period was 9.09% (shown in yellow)
- The low of 4.78% occurred on September 30, 2009, during the depths of the financial crisis
- The high of 12.88% occurred in June of 2022
- The most recent quarter, December 2022, shows a profit margin of 11.59%, which is 27.5% higher than the long-term average (9.09%)
Our take
The renowned British investor and investment strategist, Jeremy Grantham, once stated that “profit margins are probably the most mean reverting series in finance.” What he meant was that, in a free market, extraordinary profits will attract additional competition until the point where profits are pushed back toward an average level. The chart above indicates that the profit margin for US Stocks, while off their highs from June, are still significantly higher than the historical average. The last few years have shown us that a meme stock can spike 50% or more on any given day, however, we know that in the long-run, stock prices follow earnings. When earnings go up, stock prices typically go up. When earnings go down, stock prices are likely to fall. If Mr. Grantham is correct in his belief that profit margins are likely to revert to the historical average (let alone the potential for a recessionary drop of over 25% below the average as we saw in 2000-2002 and 2007-2009) then we believe the market continues to have significant downside exposure.
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