Most of the bad news on profits is out

This chart compares the two principal measures of corporate profits as mentioned in my previous post. The NIPA series is much more stable, because it represents economic profits rather than accounting profits. The latter can be very volatile as companies choose to write down (or up) things like goodwill or bad investments. In any event, GAAP profits have taken a pretty big hit, historically, and that suggests that we have seen most, if not just about all, of the bad news. By early next year profits could be rebounding.

Equities are not overpriced

This model of equity valuation shares many of the features of the "Fed Model" and of Art Laffer's valuation model. It uses corporate profits from the National Income and Products Accounts, which tend to be more stable than the profits reported according to GAAP. The model shows the equity market to be extremely undervalued today. The market is very fearful of a recession, and of inflation. Valuations today assume a big decline in corporate profits and/or a big increase in interest rates. In other words, lots of bad news is already priced into equities today. If things don't turn out so bad, equities will rise. They are not overpriced and represent good value, in my view.

Agency spreads are driving all spreads higher

Here's a chart of 5-yr swap spreads vs 5-yr agency spreads (FNMA vs
treasuries). Looks like most of the upward pressure on all spreads
(swaps and credit spreads) is coming from the agency sector. Agency
spreads are typically the lowest of any, since they have the quasi
government guarantee behind them. If agency spreads blow out, all
other spreads have to follow, albeit typically to a lesser extent.
Swap/agency spreads are now about as tight as they have ever been,
with the notable exception being the BSC crisis last March.