Revenue Growth: The Market's Next Catalyst

Includes: DIA, QQQ, SPY
by: Terence Chan

While I am calling for a short-term pullback, I am a long-term bull in equity markets globally and believe that we will not retest the lows in March.

To reiterate my case, I believe that:

  1. Emerging markets especially China, India and Brazil will fuel global recover in demand, they are still in "secular" (not cyclical) bull markets;
  2. We were pricing in a depression scenario at the March levels, and a depression is now out of the question; and
  3. Massive and concerted global stimulus efforts.

Of course, everybody is worrying about what exit strategy central banks like the US Fed will have to take with the massive amount of money-printing they have implemented. That is a valid concern, but when we are at the bottom of the cycle wherein interest rates are close to zero and economies are still fragile, I wouldn't worry too much about that.

So what will be the catalyst to fuel the next leg of the rally after the short-term correction? 2Q09 earnings were mostly positive (about 75% of companies beat estimates) since we were coming from a low base and through cost-cutting efforts. There was nothing to show in terms of revenue growth; in fact, overall sales growth was negative. But I believe that revenue growth, maybe by 4Q09 or early 2010, will be the catalyst for the "real bull move".

Below you see the inventory/sales ratio forecast provided by Financial Forecast Center (FFC). They actually provide free forecasts of various economic indicators and asset values for six months. Their latest update of the inventory/sales ratio was in April 2009. The ratio speaks for itself... it shows how much inventory businesses have to work off in this recession cycle.

As you see, FFC expected the ratio to peak at 1.47 and fall to about 1.3 by November, which should be the "lean" inventory level.

Below is the actual figures for inventory/sales ratio as of June 2009 (from, and you see that the actual figures are falling faster than expectations. The June ratio is already at 1.38 versus the expectations of 1.45.

Thus businesses might reach lean inventory levels sooner rather than later.

The sequential increase in retail and wholesale sales the past two months have been helping in lowering this ratio, with the manufacturing level sales still lagging but bottoming (+1.4% in June versus -0.8% in May. Click below image to enlarge.

What does this all mean? If inventories get down to a lean enough level soon, it will only take a small uptick in demand to get a recovery in orders across the supply chain. We could thus see revenue growth fueling earnings going forward, as opposed to cost-cutting measures only.

This revenue growth may come in 4Q09 or early 1H10. I believe this will fuel the next leg of the market rally.

Disclosure: Author has no long positions