A 40% surge in equity markets since March is not a statistic one readily associates with calm. However, half way through the half-year earnings season it is clear falling uncertainty, or, put another way, growing comfort, with the corporate earnings outlook, has been a strong motivator of stock prices.

As I write, just over 100 companies, representing three-quarters of the Australasian market value, have delivered their earnings for the six months to June and most of these have delivered results in line with market expectations. Positive surprises, those companies that delivered earnings ahead expectations, outweighed the number of reporting earnings below expectations.

Investors believe the economy has bottomed out and the picture is getting better by the day. This is best evidenced by the revisions to the ratio, which captures the number of earnings upgrades to earnings downgrades. The ratio, as the graph shows, is now firmly in positive territory, where upgrades outnumber downgrades, after spending much of the past two years heavily in the red.

More importantly, the trend is mitigating one of the key risks running into the Australian earnings season. Share prices in this hemisphere surged, as a raft of North American companies, particularly the financial sector, ran well ahead of forecasts.

This set the Australian market up for a fall. Investors, in short, expected outperformance and thus anything short of that would have been punished.

The effect was still evident in companies such as CSL. Its results were largely in line with market expectations, but the market baulked at declining margins, while earnings growth also fell short of hopes. After rallying as high as A$34.50 immediately after the result the shares fell as low as A$32.

The resilience in Australasian corporate earnings appears to be due to cost cutting. This is most evident in the stocks that have beaten expectations. Qantas, for example, is one of the companies hardest hit by the economic turmoil, suffering a 7% decline in sales and an 87% decline in profits.

However, its underlying profit margin surged from 15% last year to 20% this year. Similar trends were evident at drilling services firm Boart Long Year, Santos, Leighton, and BHP.

None of this is to say the market believes listed companies are out of the woods. Aggregate earnings for this year are confirming forecasts of 24% decline this year. The following year the consensus is for a fall of a similar magnitude (thanks largely to a continuing dour outlook for the listed property sector) with a pick-up slated for 2011.

US revival

Fundamentally, the optimism in Australia has been driven by its proximity to China. Its stage of growth is associated with a high demand for hard commodities of which Australia is the pre-eminent supplier, not least because of its proximity to the market.

The received wisdom was that the US, and for that matter Europe, would have some work to do before they added to aggregate demand.

This view is now up for debate. US leading indicators, such as the US Philadelphia Federal Reserve’s Manufacturing Survey Index, are now at a level last seen during the start of the last bull market.

The recovery is being led by an unwinding of an over-zealous de-stocking by industry. The scope for improvement is huge.

The US auto industry illustrates the trend. Domestic production of cars and light vehicles was down 40% on the pevious year in July, tracking at an annualised rate of 5.9 million units.

This, however, compares to annualised vehicle sales of 8.2 million in the same month. In short, demand for vehicles is running well ahead of production. It is not hard to imagine a situation where companies are left with empty warehouses and major backlogs of orders.

Similar trends are evident in housing, where construction activity could double and yet still only match long-term average. Such re-stocking could be the source of the next step up in equity markets and particularly those exposed to the US market.

The obvious firm in this category is Boral, which generates around thirteen per cent of its building material sales from the US, while at the same time is highly leveraged into the recovering Australian housing market.

Other stocks include surf-wear seller Billabong, which generates nearly half its sales in the US.

Richard Inder is an investment adviser at Macquarie Private Wealth. His disclosure statement is free and is available on request. Clients may hold shares in the firms mentioned. Comments, think differently? Write to richard.inder@macquarie.com