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- Amazon's recent increase of its minimum wage to $15 is great news for workers, but less exciting for stock traders who have enjoyed a historically strong period of earnings growth.
- Labor costs are headed higher for US corporations, and they represent a serious threat to profit expansion, and thereby the broader market at large.
So far in 2018, earnings growth for US companies has been the strongest in years. And based on forecasts from Wall Street analysts, their impressive expansion is likely to continue through the third quarter.
But as corporations start to report their latest numbers, many investors will be focused not on the last quarter, but what the future holds.
Because even though double-digit profit growth is an encouraging sign, the inevitable decline from that lofty level poses a real threat to the share prices of companies who have seen valuations swell along with earnings.
The chart below shows these worries are valid. After peaking in the second quarter, earnings growth is now expected to grind lower over the next few periods.
Goldman Sachs
Complicating matters further is Amazon's recent move to increase its minimum wage to $15. The move has shined a light on another dirty little secret of the record-setting stock market: wages and labor costs are increasing.
Goldman Sachs expects that upward pressure to start eating into profit margins. And the situation is already quite urgent. A leading wage indicator monitored by the firm is already at the highest level of this market cycle.
These developments should have prudent investors closely watching for guidance from companies most exposed to higher labor costs.
"Amazon's announcement of a $15 minimum wage for all US employees has spurred discussion of economy-wide wage inflation," David Kostin, Goldman's chief US equity strategist, wrote in a client note. "Investors will be observing the responses from other firms."
US stalwart McDonald's would appear to be next in line. Vermont Senator Bernie Sanders - who was instrumental in getting Amazon to raise its pay - recently called for the fast-food giant to raise its own minimum wage to $15.
But Amazon and McDonald's are hardly the only companies feeling the pressure of higher wages. As the chart below shows, small businesses are actually more worried about the quality and cost of labor than anything else right now.
Goldman Sachs
What's ultimately at stake stretches far beyond the near-term fates of Amazon, McDonald's, or any of the small firms surveyed for the chart above. The very health of the entire stock market hangs in the limbo.
If companies are unable to contend with rising labor costs, their bottom lines could suffer. And since the historic profit growth mentioned earlier is so responsible to record-setting equity valuations, any sort of downward shift could take some of the air out of the market.
Going forward, Goldman says the best approach is to identify companies that either have low labor costs, or are relatively immune to upward pressures.
Because wages are rising, regardless of whether traders like it. All they can do now is recognize this mounting headwind and adjust accordingly.
Get the latest Goldman Sachs stock price here.