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Bulls Focus on S&P 500 Earnings: Zacks June Strategy

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The following is an excerpt from Zacks Chief Strategist John Blank’s full June Market Strategy report To access the full PDF, click here.

I remain moderately in-line bullish on U.S. stocks.

However, the next quarter will surely not be as friendly to long investors in stocks as Q1.

How to set stock market returns expectations for 2019?

Look back at the multiple years’ sequence of annual positive share returns. Then look ahead at forward earnings fundamentals – you gain the best perspective.

2018 returns were a lousy -6.2%. That set up 2019 with lower share price valuations to begin.

What happens to annual S&P 500 returns in 2019 likely looks more like bullish runs in year’s past. The annual 2017 S&P500 returns came in at +22.6%. In 2016, this U.S. benchmark rose +12%. In 2015, it rose a paltry +1.4%. In 2014, it rose +14%. In 2013, the index saw the best of years this cycle, at +32%.

Could annual returns match 1-for-1 with annual earnings growth? Possibly. Earnings growth could end with a +3.2% mark across all of 2019. But it’s a double-digit +11.1% mark for 2020.

Q1-2019 earnings growth rate finished at -0.4% (with $38.80 in operating earnings). That was indeed a weak quarter. It was a lower absolute quarterly EPS than the prior 4 prints.

Here is the new big short-term problem bulls face. Q2 earnings are $40.61. That is better than Q1. But a new S&P 500 quarterly high of $43.38 is not seen until Q3. It will be tough for the S&P 500 index to get to new highs without quarterly earnings doing so.

Yet there are mostly S&P 500 earnings positives to point out.

S&P 500 revenue growth is stable. Q1-19 revenue growth was +5.3%. Q2-19 should be +4.1%. Full-year 2019 revenue growth is at +4.6%. 2020 revenue is at +5.3%.

Breadth is poor for Q2-19. 5 of 11 S&P 500 sectors mark positive earnings growth. Info Tech looks very bad, ditto poor marks for Materials, Industrials, and Staples & Discretionary.

But sector breadth is much better across all of 2019. Only Energy and Materials sector earnings growth are negative.

April seemed to mark a turn up in annual “bottoms-up” earnings revisions to both 2019 and 2019. If this sticks, the earnings decline could be behind us by 2H-19.

The latest “bottom’s up” outlook shows an all-time peak in S&P 500 operating earnings landing in Q2-2020 ($45.67).

In terms of fundamentals, the “China Trade War” remains the big stumbling block.

How did BCA Research sum up the China situation on May 29th?

“A financial market riot point remains likely over the coming few months to force policymakers to address the economic weakness that a full-tariff scenario will entail. We are tactically bearish toward China-related assets, but cyclically bullish in anticipation of a strong reflationary response. A strong response implies 2.8-3 trillion RMB in new credit per month in May and June; May’s number may fall short of this, but that would set up June as a make-it or break-it month for credit creation.”

If Xi and Trump meet at the G-20 in late June, U.S. Trade Rep. Lighthizer resumes negotiations with China. For progress, I personally think hawks on the U.S. team (Lighthizer, Miller and Navarro) need to be replaced with moderates (Mnuchin and Ross).

Zacks June Sector/Industry/Company Telescope

June Zacks Industry Ranks are a tepid story (from the broadest top-down look).

When the sector leader is Consumer Staples? That is a defensive moment in time.

However, Info Tech and Health Care are near the top, where they usually are.

And there are copious contrarian industries holding up well across the sectors.

Bulls should consider Misc. Tech in Info Tech (services & consulting), Business Products in Industrials, Telco Equipment (the 5G story), and Metals Non-ferrous (Vale dam debacle).

Pick your spots carefully. Stay cautious this summer. That is what is worth writing.

(1) Consumer Staples moved to Very Attractive from Attractive. The leaders are Misc. Staples and Food (again). But Food & Drug Retail is up there.

Top Zacks #1 Rank (STRONG BUY) Stock: Pilgrim’s Pride (PPC - Free Report)

(2) Info Tech rose to Attractive from Market Weight. But the best groups are different now. They are Telco Equipment and Misc. Tech (lots of consulting services).

Office Equipment was solid too. Semis are neutral to weak. Ditto Electronics. Trade war casualties.

Top Zacks #1 Rank (STRONG BUY) Stock: Viasat (VSAT - Free Report) )

(3) Health Care fell to Attractive from Very Attractive. There is no clear leader. All industry groups are slightly above average. No great show here.

Top Zacks #1 Rank (STRONG BUY) Stock: Cerner Corp (CERN - Free Report)

(4) Industrials moved down 2 notches to Market Weight from Very Attractive. The sole Very Attractive group was Business Products. Aerospace & Defense still looks good too.

(5) Financials stayed at Market Weight. Two leaders are Investment Banking & Brokering and Insurance.

(6) Energy stayed at Market Weight. The leader remains Exploration & Production.

(7) Utilities moved down to Market Weight. Gas Distribution is the leader in June.

(8) Consumer Discretionary fell to Unattractive from a Market Weight.  Publishing continues to rank well.  Media held up too. But the tone here is broadly negative.

(9) Communication Services fell more, to Very Unattractive from a Market Weight. Telco Equipment is a contrarian strong group.

(10) Materials fell to Very Unattractive from Unattractive. A contrarian group is actually looking strong. Metals Non-ferrous industry is a durable bright spot.


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