“Better Than Feared” Is the Theme of This Earnings Season

Now is the time that the economic calendar quiets down and earnings season takes center stage. The phrase that pays is...Better than feared, states Steve Reitmeister of Reitmeister Total Return.

It means that expectations were incredibly low coming into this earnings season with the average company expected to show -a 9% EPS decline. Low hurdles like these are easy to clear seeming like progress is being made in the short run. Unfortunately, it is the long run that truly matters in the vital bull vs. bear debate. That, as per usual, will be the focus of this week's Reitmeister Total Return commentary below...

Market Commentary

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“Better than Feared” is most certainly the theme of this earnings season. Tuesday afternoon’s release of Microsoft and Google earnings are prime examples. These shares were down markedly on the session Tuesday awaiting their results. That’s because estimates had been cut bit by bit over time to where Microsoft was expecting to post flat year-over-year results while Google was staring at a greater than 10% earnings drop year over year.

Hooray...they beat these low hurdles with shares up about 3-5% each after hours. Yet as the applause fade away...are results like these good to prop up the market in the weeks ahead? This is where I turn to my friend Nick Raich of EarningScout.com to gain a broader view of the earnings season to date:

“We have some good news but more bad news about the 2Q 2023 EPS estimate revision trends for the first 89 S&P 500 companies reporting 1Q 2023 results through last week’s market close. The good news is the rate at which 2Q 2023 EPS estimates are falling (-0.99%) for the first 89 reporting 1Q 2023 results is less than how their 1Q 2023 EPS estimates fell (-1.63%) after reporting 4Q 2022 results roughly three months ago. Remember, less negative EPS estimate cuts typically lead to higher stock prices, and that has been the case in 2023 with the S&P 500 up +7.66 YTD and +15.56% since October 12, 2022. Here are the negatives. While EPS estimate cuts are less severe, the current percentage of companies raising estimates is the lowest we have measured since the height of Covid-19 fears in early 2020.

A major reason why companies have not guided analysts lower, and why the analysts have not cut estimates more, is because of interest rate cuts anticipated to begin in the Fall. If interest cuts are delayed, then 2H 2023 and FY 2024 EPS estimates will need to drop significantly more. Lastly, stock valuations are not cheap, even based on the currently overestimated FY 2023 EPS estimate, which stands at 18.72x. Since the FY 2023 EPS estimate will be dropping more in the weeks ahead, all future stock gains will require multiple expansions. Stay underweight stocks.”

Note that corporate earnings are a symptom of economic conditions. Thus, the weakness found in places like ISM Manufacturing and Services is showing up with sniffles and fevers in this year-over-year earnings decline. Thus, with valuations on the high side...and earnings estimate likely to be cut further...then kind of hard to imagine a meaningful advance in stock prices in the days ahead.

On the other hand, investors have found little reason to sell off in a meaningful way since the brief banking scare in March. Yes, that got slightly re-awakened Tuesday with news of further trouble at First Republic. The key is that sickness does not seem to be spreading to other banks in a meaningful way. All of this tells me limbo and trading range are the expected outcome in the short run awaiting a clear catalyst to break bullish or bearish. Here is the upcoming schedule of events that could serve as a possible impetus for that next big move:

4/27 Q1 GDP, PCE prices (Fed’s preferred measure of inflation)

5/1 ISM Manufacturing

5/3 ISM Services, Fed Rate Decision

5/5 Government Employment Situation

Now let me repeat something from last Friday’s POWR Value commentary:

“The catalysts to become bearish will be obvious. That is clear-cut proof of a recession unfolding with stocks tumbling to the October low of 3,491 and likely lower. The funny thing is that the catalysts to the upside may be quite subtle. Simply the absence of bad news = good news = stocks moves higher.”

Right now, we are straddling these conflicting bullish/bearish themes by remaining 50% invested. Once evidence emerges tipping the scales in a more clear-cut direction, our trading strategy will appropriately evolve with the times. Until then the 50% invested plan remains in effect. Gladly it has been helping us outperform the pack of late and expect that edge to continue.

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