Salient to Investors:

Higher debt costs will reduce buybacks and dividend increases.

Borrowing costs for S&P 500 companies fell to 1.4 percent of sales the last 12 months, a record low in 11 years of data. Corporate bond yields are increasing the most since 2009 and are at 4.3 percent versus the 5.7 percent average since the start of the financial crisis and 6.9 percent average in the decade before the start of the bull market.

Paul Zemsky at ING Investment Mgmt said part of the profitability story will start eroding and will have more of an impact on financial transactions, like buybacks and dividends.

The median economist expects the Fed to taper in September.

Birinyi Associates said authorized US stock buybacks reached a 6-year high of $505 billion so far in 2013 after more than $1.7 trillion of repurchases since 2009, but announcements have slowed to less than $50 billion in each of the past two months versus over $68 billion average in 2013 thru June. Repurchases dropped 3.2 percent to $118.5 billion in 2003, the last year before the Fed started raising rates.

The 100 stocks in the S&P 500 with the most buybacks relative to market value have beaten the index since March 2009, advancing 236 percent versus 141 percent for the benchmark.

Companies that increased dividends every year for the last 25 years rose 169 percent in this bull market. The dividend yield on the S&P 500 averaged 2.12 percent for the 12 months through May, 0.38 percentage points higher than the 10-yr Treasury.

Earnings per share for S&P 500 companies were over $100 a share in 2012 versus $60 in 2008 as net income rose faster than sales, margins expanded for 9 straight quarters from 2009 through 2011, and interest expense fell to 1.4 percent of sales in the last 12 months versus 2.4 percent in September 2012.

Profit expansion slowed to an average 4.2 percent the last six quarters versus the 28 percent mean during 2010 and 2011.

Kevin Caron at Stifel Nicolaus said with profitability close to peak levels, to get earnings to rise further, who else are you going to fire? What else are you going to cut? Caron said the trillion-dollar question is what drives the rally from here?

James Paulsen at Wells Capital Mgmt said when the Fed starts raising rates, and suddenly all the Armageddon stories are no longer, greater confidence in the economy would lead to an acceleration of corporate activity into capital investment. and by the time rates get back to normal, US executives will want to reinvest in their business instead of buying stock.

Analysts project S&P 500 earnings will growing at 10.6 percent in 2014 and 2015, or twice the pace of 2013.

P-E ratios for the S&P 500 rose to 16 times earnings in the last 12 months, versus the average of 15.5 times since March 2009, 18.8 times mean in the 2002-2007 rally, and 28.1 times in the last two years of the 1990s.

The most indebted companies in the S&P 500, which had beaten the index by 6 percentage points through May, have declined 3 percent in the last 3 months, versus a 0.1 percent gain in the Index.

Mark Luschini at Janney Montgomery Scott said companies should have locked in record-low borrowing costs by now, and if they haven’t taken advantage of this window of low rates already, shame on them.

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