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What has driven equity market advances? It’s worth repeating: Over longer horizons, one of the key drivers of equity returns is corporate earnings. Viewed over time, profitability has not just held up; it has expanded. U.S. corporate margins have continued to rise, with average S&P 500 net income margins this decade exceeding 10 percent, roughly double the levels seen in the 1990s.
Canadian corporate profits have seen a similar trajectory, though aggregate profits have been more sensitive to commodity prices — a reminder that growth in economies and markets is rarely linear.
Of course, earnings growth alone doesn’t guarantee strong equity returns. Consider that in the 1970s, an era of high inflation and high unemployment driven by the 1973 oil embargo, earnings growth was strong (+9.9%), yet elevated inflation and weak valuation multiples kept equity returns subdued (see chart).
Beyond earnings, changes in valuation, driven by interest rates, inflation expectations and investor risk appetite, can significantly amplify or offset underlying trends. Liquidity conditions and central bank policy also play a role in shaping how much investors are willing to pay for a given stream of earnings. Nevertheless, earnings remain the foundational driver of long-term equity performance and a key anchor for continuing market strength.
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