If you want the good news on this quarter’s US earnings season, there is at least this: profit margins have held up much better than expected. Earnings have slightly surpassed the dreadful expectations for them — even though, and this is the bad news, revenues have been even worse than the dire forecasts that preceded them.
The bad news has, it appears, crowded out the good. Despite beating a low bar of expectations, companies have in general not been rewarded with a strong uptick in share price after their announcements. No matter the strong positive factors of a rising oil price and a weakening dollar, both of which should have been unambiguously positive for the US main indices in the short term, the S&P 500 has gained less than 1 per cent in the three weeks since Alcoa started out the first-quarter earnings season, and remains below the record it set almost exactly a year ago.
Why is the normally reliable trick of beating low earnings expectations failing to boost stocks this season? One explanation is that the market had rallied since February, even as brokers cut their estimates. This reduced leeway.
Then there is the fact that the current picture for both the top and the bottom lines is, in absolute terms, very bad. Both revenues and profits are falling, and normally this only happens when an economy is entering a recession. Globally, the profits of MSCI World companies are down 4 per cent from their peak in 2014, and back to where they were five years ago.
In the US, according to Thomson Reuters, earnings are coming in at 5.2 per cent down on the first quarter of last year. This compares with forecasts of a 7.1 per cent fall when the quarter ended, but is still terrible by any sensible estimation. Meanwhile in Europe, the companies in the Stoxx 600 are seen registering an earnings decline of 18 per cent.
Revenues in Europe are running 6.3 per cent lower from the first quarter of last year. US revenues are down 1.7 per cent (compared with a forecast 1.1 per cent fall when the quarter ended).
Of course, energy is by far the greatest reason for the disappointing revenues, thanks to the falling oil price. However, the oil price rose during the quarter, and six other sectors have also so far disappointed on revenues — most notably utilities (where sales are down 7.1 per cent). Technology revenues, down 6. 1 per cent, also contributed significantly to the disappointment.
In Europe, the strong euro offered a reason for disappointing revenues. In the US, a sharply weakening dollar during the quarter, not previously incorporated in analysts’ forecasts, should have flattered multinationals’ revenues — and, indeed, international companies have tended to generate more positive surprises than others.
In the face of disappointing revenues, therefore, it is unsurprising that companies’ ability to maintain their margins has been overlooked.
There are some positive glosses to be put on this. Earnings announcements have been taken as an opportunity to mete out punishment on recent darlings whose valuations had become excessive. Priceline, which nominally beats consensus forecasts but saw its share price drop almost 10 per cent on Wednesday morning, is only the most recent example. Microsoft, Google and Apple were all among other companies to suffer this fate.
The “Fangs” — Facebook, Amazon, Netflix and Google — are down more than 7 per cent for the year, while the S&P is roughly flat, despite the very positively received earnings of Facebook and Amazon.
This leads to another positive gloss: the stock market has widened. Energy stocks have recovered somewhat, and plainly excessive valuations in tech have been reined in. Information technology outperformed the rest of the S&P by 5.5 percentage points from the beginning of last year up to early April; since then it has underperformed by 6 percentage points.
Advancers outnumber decliners for the year so far, and the equal-weighted version of the S&P 500, in which each member accounts for 0.2 per cent of the index, has outperformed the market cap-weighted version by 4.2 per cent over the past three months.
So it is just about possible to read this earnings season as the end of a period in which the market has regained its balance. But it is highly unusual for equity markets to go as long as a year without making a new high, unless they are in a bear market. In the US, we need to go back to the aftermath of the October 1987 Black Monday crash for the last time it happened. So the poor earnings and their sanguine reception can most likely be explained as part of the early stages of a bear market in the US.
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