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Energy holding markets down

Best not to bet on a fat guy in a contest to lose 10 pounds, as my eldest daughter once did with me. It turns out that dropping 10 out of 240 pounds of chubby bunny is much easier than chiselling 10 pounds off a feisty little dancer.
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Best not to bet on a fat guy in a contest to lose 10 pounds, as my eldest daughter once did with me. It turns out that dropping 10 out of 240 pounds of chubby bunny is much easier than chiselling 10 pounds off a feisty little dancer.

Another strange statistical glitch might be called the law of really big cakes. I'm told that you can't make a huge recipe (as in a cake factory run) simply by multiplying the ingredients of a small cake by degrees. Something chemical just doesn't translate well, making the craft of factory cake quality control a precision art.

In statistics, the law of large numbers suggests that massive samples of data tend to produce results aggregating toward the average. In business, the twist on this law might be more like the cake factory than the statistical proof, but suffice it to say, the bigger the corporation, (eventually) the less spectacular the results. Said another way, industries and corporations go through life cycles that eventually trend toward something less shiny.

And so our analysts advise us that massive technology company profit margins are likely coming off the boil. This is nothing to be alarmed about and doesn't mark a major inflection point, it simply reflects the industry's natural lifecycle. Tech sector revenue growth should stay healthy overall.

Our crew still believes that Q3 earnings growth in aggregate will push into positive territory, albeit not by much, considering other major factors constraining profits. Energy is a lead weight. The 19 per cent year-over-year decline in crude oil prices during the quarter has created a difficult operating environment. We expect the energy sector to subtract two percentage points from S&P 500 earnings growth even though it represents a mere 4.3 per cent of the index. This is a turnabout from a year ago, when the sector added four percentage points to S&P 500 profits.

Sluggish overall global economic growth and pockets of domestic weakness are also factors. We anticipate some high-profile earnings misses from cyclical companies with overseas exposure in the industrials and materials sectors, and even in tech. Some domestic retailers could stumble as well. All of this would be par for the course in an imperfect economic environment.

Some of these drags on earnings growth can be traced back to the U.S.-China trade dispute; other culprits are structural economic challenges in Europe and China. Even if the mini trade deal between the U.S. and China is inked as advertised, the trade-related headwinds will not all disappear, because tariffs would remain in place.

At home, real estate fuelled growth seems baked-in. RBC Economics notes that home resales rose 0.6 per cent in September, totalling 512,000 units, the highest level in 21 months, and 6.6 per cent above the 10-year average. Following softness in key Canadian housing markets (Vancouver, Toronto, Calgary, and Montreal) last year, real estate prices appear to be stabilizing and we've likely seen the bottom of the pricing cycle. Vancouver and Toronto markets benefited from the resurgence in pricing power on the back of tight supply conditions.

Overall, the Canadian labour market added 53,700 jobs in September, above the consensus estimate of only 7,500. This marked the fifth above-50,000 monthly employment gain in 2019. The labour market is growing at its fastest pace in over 10 years, with employers having hired an average of 40,400 new employees per month over the past six months.

-- Mark Ryan is an investment advisor with RBC Dominion Securities Inc. (Member-Canadian Investor Protection Fund), and these are Mark's views, and not those of RBC Dominion Securities. This article is for information purposes only. Please consult with a professional advisor before taking any action based on information in this article. See Mark's website at: http://dir.rbcinvestments.com/mark.ryan