In this article, we provide some healthy reminders about the impact of slowing global growth on U.S. profits, payrolls and stock market dynamics. As we illustrate on the following pages, slowing global growth, weighed down by a flat-lining European economy, points to a continued deceleration in S&P 500 earnings growth. In turn, weakening corporate profit trends portend slower payroll growth ahead, which is an environment typically characterized by falling share prices.

Figure 1: Slowing global growth points to decelerating S&P 500 earnings growth

Click to enlarge.

According to the Organisation for Economic Co-operation and Development (OECD), its system of composite leading indicators (CLIs) was developed in the 1970s to give early signals of turning points in economic activity. In figure 1, we showcase the OECD's broadest CLI alongside S&P 500 earnings per share since 1990. The 12-month rate of change on the "OECD + Major Six Non-Member Economies" (NMEs) CLI

Admittedly, we've been impressed by the strength of some of the recent U.S. economic data. For example, industrial production, capacity utilization, housing starts, the NAHB/Wells Fargo Housing Market Index, the Empire State Manufacturing Survey and the Thomson Reuters/University of Michigan Consumer Sentiment Index all came in better than expected. Nonetheless, U.S. equities are still going down even on this good economic news. Why? The Minutes of the FOMC told us: "Several members indicated that additional monetary policy accommodation could be necessary if the economic recovery lost momentum or the downside risks to the forecast became great enough." One thought is that the improvement in the aforementioned macro data has reduced the probability of another round of quantitative easing, thereby dashing investors' hope for a liquidity-induced bounce in stocks.

A different and conflicting thought pertains to the broader contour of the U.S. economic landscape. Despite the improvement in IP, CapU,

We thought we'd kick things off with a recap of our recent work, starting with our stock market call, which has been cautious since April 16, 2012. In our article entitled: "What if risk assets are heading lower, not higher?", we pointed to defensive sector rotation. In our article: "Breakdown or breakout: Comparing spring '11 with spring '12", we listed six major downside risks ahead for equities (i.e., liquidity, sentiment, earnings, Europe, China and U.S. economic prospects). In: "S&P 500 earnings surprises revert to their mean", we told buyers to beware ("caveat emptor") because positive surprises matter less when the beat rate is mean reverting and the underlying trend in earnings growth is heading south, not to mention what the European recession means for S&P 500 sales.

In terms of color and flow, one of our contacts at a major broker-dealer recently informed

Last week, we presented some indicators which suggested the S&P 500's 4.3% slide in the first seven trading days of April may prove to be more than just a little spring cleaning (please see What if risk assets are heading lower, not higher?, April 16, 2012). That said, the war between the macro (e.g., U.S. durable goods manufacturers' negative surprise) and the micro [e.g., Apple's (AAPL) positive earnings surprise] has buffeted equities between a breakdown or a breakout from their recent trading range.

In terms of the downside risks, are there any other signs of more sinister things to come? Perhaps a comparison with last spring's market backdrop and share price dynamics might provide some insight. From April 1 to June 30, 2011, the S&P 500 experienced two shallow corrections of 2.3% and 7.2%, and managed to hold its ground until the summer (when it dropped 17.3% from July

What if risk assets are heading lower, not higher?

Over the past couple of weeks, we've heard much talk about a shallow correction in risk assets following the recent shakeout and associated flare-up in market volatility. Will the prior turmoil prove to be isolated and short lived, or was it a sign of more sinister things to come? Months before his departure from the Fed, Alan Greenspan reminded us that: "Long periods of relative stability often engender unrealistic expectations of its permanence and, at times, may lead to financial excess and economic stress." He later warned that: "History has not dealt kindly with the aftermath of protracted periods of low risk premiums."

In this article, we present some of the indicators we've found helpful for assessing the general direction of volatility and the risk-on / risk-off trade over the years. They include:

1. Commercial and industrial (C&I) loan growth at all