Can US Companies Weather a Global Slowdown?

  Today Month Ago Year Ago
  11-Apr-16 11-Mar-16 11-Apr-15
       
S&P TSX 13,422 13,284 15,383
S&P 500 2,041 2,055 2,092
DJIA 17,356 17,652 18,036
OIL $40.37 $29.02  $68.86
USD vs CAD 0.7755 0.7658 0.8503
Gold $1,258 $1,239  $1,174

 

Since the beginning of 2016, economists have expressed their pessimistic opinions about the global economies. The US Federal reserve raised their benchmark interest rates in December 2015 for the first time in a decade with a view that the US economy is growing and strong enough to sustain gradual rate hikes during 2016. Since the rate hike, US indices have not performed well and have been flat. Economists and financial commentators are continuously questioning Janet Yellen’s decision to raise interest rates and do not believe that the US economy is ready for another hike in interest rates. According to CME Fed Watch tool, probability of another rate hike in December 2016 is now only 59%.  While the US economy is not performing reasonably well, weakness across European and Asian nations definitely hurts US multinational corporations. At a time when many European nations are facing record unemployment and weak economic growth, European Central Bank has opted for negative interest rates to revive their economic growth rates. Until February, more than $7 trillion of Government bonds worldwide offered negative yields, which means that any investor that bought these bonds and holds them till maturity won’t get all his or her money back. Recent research by Factset showed that companies with more than 50% of their sales within US had positive earnings growth rate but on the contrary, companies with more than 50% of their sales outside US had a decline in their earnings. A strong US dollar and lower energy prices are the main contributors for this decline in corporate profitability. Companies with majority of their sales outside the US had to face losses in foreign exchange, which lowered their profitability. The US Dollar index has increased by more than 20% against a basket of 9 currencies since 2013. Many companies have started to report their earnings for Q1 2016 and so far 22 companies in the S&P 500 have already reported their earnings.  As of today, the estimated earnings growth rate for Q1 2016 is -9.1%, compared with a growth rate of 0.7% for the last quarter (on December 31, 2015). If the index reports a decline in earnings, it will be the first time that the S&P 500 has seen four consecutive quarters of year-over-year earnings decline since December 2008.

While companies’ profitability and indices should move in the same direction, history does not show any such relation. The image below indicates that from 2000- 2009, annual profit for companies grew by 10.3% but the annual stock market returns for that decade were -1%. Conversely, from 2010- 2015 the annual profit for companies grew by 1.5% but the annual stock market returns were 12.8%. Investors should still conduct more research (macro and micro economic) and talk to their financial advisors before drawing any conclusions between earnings growth rate and index movements.

Oil Prices and the US Equities!!

   Schwaben Blog

January 29, 2016

 

 

Weekly Statistics:

  Today Week Ago Year Ago
  29-Jan-16 22-Jan-16 29-Jan-15
       
S&P TSX 12,822 12,389 14,384
S&P 500 1,940 1,906 2,044
DJIA 16,466 16,093 17,780
OIL $33.20 $32.25  $68.86
USD vs CAD 0.7112 0.7081 0.8503
Gold $1,121 $1,098  $1,174

 

US stocks closed sharply higher on Friday, booking a second straight weekly gain but posting the worst January performance since 2009. The main driver for Friday’s rally was a surprise decision by the Bank of Japan to push a key interest rate into negative territory that could also push the Federal Reserve to ease up on its plans to steadily raise interest rates. Even after this rally, major indices have still lost more than 5% in January. St. Louis Fed President James Bullard recently mentioned that the continuing plunge in oil prices could impact the U.S. central bank’s decision-making process. Oil prices have lost nearly 18 percent in January, and causing worries that the global economy will enter a prolonged slowdown. As of Friday, 40% of the companies in the S&P 500 have reported their Q4 2015 earnings and 72% of those have reported above their mean estimates. For Q4 2015, the blended earnings decline is -5.8% and if the index reports a decline in earnings for Q4, it will mark the first time the index has seen three consecutive quarters of year-over-year declines in earnings since 2009. Out of the 10 sectors in S&P 500, four sectors are reporting year-over-year growth in earnings, led by the Telecom Services and Information Technology sectors, and six sectors are reporting a year-over-year decline in earnings, led by the Energy and Materials sectors. The blended earnings decline for Q4 2015 is -5.8%; excluding the Energy sector, the blended earnings decline for the S&P 500 would improve to positive earnings growth of 0.5% from a decline of 5.8%, a clear indication of the magnitude that the decline in oil prices has had on the indices.

The Good, the Bad and the Ugly of the Fed rate hike!!

   Schwaben Blog

December 18, 2015

 

 

Weekly Statistics:

  Today Week Ago Year Ago
  18-Dec-15 11-Dec-15 18-Dec-14
       
S&P TSX 13,024 12,742 15,417
S&P 500 2,006 2,017 2,089
DJIA 17,129 17,266 17,819
OIL $34.55 $35.56 $68.86
USD vs CAD 0.7165 0.7278 0.8503
Gold $1,066 $1,078 $1,174

 

The Federal Reserve raised interest rates for the first time in a decade, pointing towards a healthier and a stronger US economy. The board members of the Federal Open Market Committee (FOMC) voted unanimously for this rate hike. The U.S. central bank’s policy-setting committee raised the range of its benchmark interest rate by a quarter of a percentage point to between 0.25 percent and 0.50 percent, ending a lengthy debate about whether the economy was strong enough to withstand higher borrowing costs. Many economists see this rate hike as a vote of confidence in the US economy. The central bank clarified that the rate hike was a tentative beginning to a “gradual” tightening cycle, and that in deciding its next move it would give more importance on monitoring inflation, which remains well below the Fed’s target rate of 2%. A Dec. 9 Reuters poll showed economists forecasting the federal funds rate to be 1.0 percent to 1.25 percent by the end of 2016 and 2.25 percent by the end of 2017. Equity markets applauded the rate hike and rose sharply on Wednesday after the announcement, but markets lost their gains and fell subsequently on Thursday and Friday. The main reasons for the subsequent drop in equity markets are the rising US dollar and falling oil prices falling $35 per barrel (first time in last seven years). Today is a big options expiry day- a day when futures and options contracts expire- which is likely adding to volatility. The chart below depicts the US Fed funds rate, which peaked at 5.25% in 2006 and stayed at almost 0% since 2009.

 

Source- Bloomberg, Globe Investor Gold, Financial Post, Market Watch, Trading Economics

The Effect of US Dollar on Equities

   Schwaben Blog

November 13, 2015

Weekly Statistics:

Today Week Ago Year Ago
13-Nov-15 06-Nov-15 13-Nov-14
S&P TSX 13,075 13,553 14,843
S&P 500 2,023 2,033 2,039
DJIA 17,245 17,910 17,652
OIL $40.73 $44.52  $75.01
USD vs CAD 0.7507 0.7537 0.8827
Gold $1,083 $1,088  $1,165

In the S&P 500, 444 companies have reported their earnings for Q3 2015 until last week. 74% of those companies have reported earnings above the mean estimate and 46% have reported sales above the mean estimate. The blended earnings decline for Q3 2015 is -2.2%, compared with earnings expectations of -5.2% on September 30, 2015. This will mark the first back to back quarters of earnings decline since 2009 if the index reports a decline in earnings for Q3. It will be almost certain that the overall earnings will be negative unless the remaining 56 companies report stellar results. The blended sales growth is -3.7%. Two main factors responsible for decline in earnings and sales across the index are strong  US dollar and a struggling Energy sector. The Energy sector was the largest contributor to the year-over-year declines in both earnings and revenues for the index. The blended earnings growth rate for the S&P 500 (ex-Energy) for Q3 is 4.5%. Hence Energy has contributed -6.7% to earnings this far. The other factor for decline in earnings and sales is strong USD. A recent analysis by Factset to quantify the effect of strong USD on S&P 500 companies found that companies that generate more than 50% of sales inside the US had a blended earnings growth rate of 4.8% but for companies that generated less than 50% of the sales inside the US, the blended earnings growth is -10.6%. The results were similar for the blended sales growth rate. This is a sign of the worsening effect that a strong USD has on the US conglomerates. After last week’s astounding payroll report, analysts and economists have become overly confident of a rate hike in December. According to CME FedWatch tool, there is a 70 % probability of a rate hike during FOMC meeting in December. Should interest rates increase, then there is a 69.8% probability of a 50 basis points hike and 30% probability of a 25 basis points hike.  The high likelihood of a rate hike led to  sharp decline across all major indices this past week. A rate hike in the US would lead to a stronger US$, the greater the rate hike the more the US$ would strengthen. The graph below compares the change in price of the S&P 500 with the change in Forward 12 month Earnings per share for the index.

Reasons for the Recent Rally in Equity Markets.

   Schwaben Blog

October 23, 2015

Weekly Statistics:

Today Week Ago Year Ago
23-Oct-15 16-Oct-15 23-Oct-14
S&P TSX 13,953 13,838 14,227
S&P 500 2,075 2,033 1,950
DJIA 17,647 17,216 16,677
OIL $44.33 $47.17 $80.39
USD vs CAD 0.7657 0.7757 0.9012
Gold $1,164 $1,177 $1,233

The consecutive announcements by the European Central Bank (ECB) and the People’s Bank of China (PBOC) on Thursday and Friday respectively drove equity indices higher. The ECB signaled that it would expand its $1.28 Trillion quantitative easing program in December and cut its deposit rate if the slowdown in emerging economies threatens the eurozone’s economic recovery. Furthermore, the Chinese central bank dropped their benchmark interest rates by 25 bps. Many analysts are viewing this cut in interest rate as a measure by Chinese leaders to spur the country’s economic growth to their target of 7 percent. The reduction in interest rates is planned to stimulate the growth of the Chinese economy and stimulate global equity markets. Unexpected smaller declines in profits in US equities also drive the recovery in equity indices from a few months ago. 77 percent of the 173 companies that have reported their earnings for Q3 2015 have reported above expectations. On September 30, the estimated earnings decline for the S&P 500 for Q3 2015 was -5.1 percent. As of today, the earnings decline has been revised to -3.8 percent. Upside earnings surprises by companies in the Information Technology, Consumer Discretionary, and Telecom Services sectors accounted for most of the decrease in the earnings decline for the index. Microsoft, McDonald’s, Amazon, AT&T, GM as well as other Blue Chip equities had a positive impact in their respective sectors. Energy and Materials are the largest contributors to the earning declines across all sectors.

Source- Bloomberg, Globe Investor Gold, Financial Post, Market Watch, Trading Economics

Will the S&P 500 Miss the Earnings Estimate Again?

   Schwaben Blog

October 09, 2015

Weekly Statistics:

Today Week Ago Year Ago
09-Oct-15 02-Oct-15 09-Oct-14
S&P TSX 13,964 13,340 15,086
S&P 500 2,015 1,951 1,906
DJIA 17,084 16,472 16,544
OIL $49.49 $45.63  $83.58
USD vs CAD 0.7725 0.7507 0.9062
Gold $1,156 $1,137  $1,225

The minutes from FOMC’s September meeting were recently released and they clearly indicated that the members of Federal Reserve were more inclined towards raising the interest rates but did not do so because of fears of global slowdown. According to the minutes of the meeting, “ Participants anticipated that recent global developments would likely put further downward pressure on inflation in the near term; compared with their previous forecasts, more now saw the risks to inflation as tilted to the downside”. Although this led to sharp correction in the equity indices but the overall sentiment since the last meeting has greatly improved. Investors seem to have discounted the probability of a rate hike in October or probably even in December and a rally of around 4 percent (week-over-week) followed across the major indices of the US and Canada, but it does not mean that the outlook is certainly positive for equities. Earnings drive stock prices and with valuations at historical highs, it will take decent to strong earnings for this bull market to continue. According to FactSet, for Q3 2015, the average estimate for earnings decline is -5.5 percent for S&P 500. If the index reports a decline in earnings for Q3, it will mark the first back-to-back quarters of earnings decline since 2009. Only 5 percent of the S&P 500 companies have reported their earnings till now and many heavyweights like Intel, Johnson and Johnson, Kinder Morgan, JP Morgan etc. are reporting next week. Of the companies that have already reported their earnings, consumer driven companies like Nike, Costco have delivered strong results but industrials like Alcoa have disappointed the investors.  Slowing Chinese economy and a strong dollar could again be made the scapegoats and many companies have already cited a stronger dollar to have a negative impact on their Q3 earnings.

The US Economy Slowing Down?

   Schwaben Blog

October 02, 2015

Weekly Statistics:

Today Week Ago Year Ago
02-Oct-15 25-Sep-15 02-Oct-14
S&P TSX 13,340 13,380 15,026
S&P 500 1,951 1,931 1,965
DJIA 16,472 16,315 16,945
OIL $45.63 $45.58  $89.37
USD vs CAD 0.7507 0.7507 0.9051
Gold $1,137 $1,146  $1,226

With only two weeks left for the October FOMC meeting, it certainly doesn’t look like a rate hike is on the Fed’s agenda. The disappointing unemployment report for the US economy justifies the Fed’s decision to not to raise the interest rates during their last meeting. In September, the US economy added a seasonally adjusted 142,00 jobs compared with analysts’ expectation for a gain of 200,000 jobs. This is the second month of disappointing unemployment numbers, after the US economy added only 136,000 jobs in august compared with analysts’ expectation of 173,000. A significant correction in oil prices during last one year has led to mounting losses/ bankruptcies for many energy companies and they have cut 120,000 positions since December 2014. The longer the oil prices stay low, the deeper the losses for energy companies, and therefore more layoffs. These layoffs could be one of the reason for disappointing unemployment numbers since last two months. After deciding to keep interest rates steady during the last meeting in September, the Federal reserve chairperson, Janet Yellen, commented that most members on Federal Open Market Committee (FOMC) still expect a rate increase in 2015, but I believe that a rate hike in the first quarter of 2016 would be more prosperous for the US economy. The poor unemployment numbers in the last two months could also mean the economy did not grow at a decent pace in the third quarter. At a time when global economies were slowing down, the US economy grew at 3.9 percent in the second quarter and a dismal performance in the third quarter   would cast serious doubts over the strength of the economy.

Source- Bloomberg, Globe Investor Gold, Financial Post, Market Watch, Trading EconomicsUS Jobless Sep 2015