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The Market's Worst Days are Behind Us

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The chart below shows the year-to-date performance of the S&P 500, Nasdaq Composite and the Russell 2000 indexes.







Please note that the Russell 2000’s underperformance is primarily a function of the small-cap index’s greater weightage for the Energy and Finance sectors relative to the S&P 500 index. While stocks in some of the more defensive sectors have fared a little better than the broader indexes, it has overall been a tough patch for stock market investors.

With the S&P 500 index historically losing about a third of its value in response to recessions, it is reasonable to expect that the bulk of the pullback is behind us at this stage. The chart below shows the 15-year valuation history for the S&P 500 index, on a forward 12-month P/E basis.






Over this 15-year period, the index has traded as high as 19.3X (November 2017), as low as 10.6X (September 2011), and a 15-year median of 15X. In other words, we are trading below the 15-year median. The downturn has squeezed the market multiple by roughly -26% at this stage.

We got into this downturn not because of a structural problem in the U.S. economy, but rather because of an exogenous shock (the virus outbreak). I strongly believe that the market will find its collective footing only after it gains greater confidence and visibility on the underlying driver, meaning the outbreak.

And since there are no easy or quick fixes on the virus front, at least through the next four to six weeks, it is reasonable to expect the market to sputter around current levels, with a bias to the downside as the outbreak moves towards its peak and we digest ominous headlines about the outbreak’s human and economic toll.

That said, the bulk of the sell-off is likely behind us and the best investment strategy for those with a longer holding horizon, beyond the next one to two years, is to start accumulating small positions in quality blue-chip names that are now available at 20% to 30% discounts relative to where they traded 5 or 6 weeks ago.

I am not suggesting that you jump in all the way today, but rather start taking small positions while still preserving sufficient capital for opportunities that are bound to show up in the coming days. Don’t try to ‘time’ the market or look for catching the true bottom. That is an extremely difficult, if not altogether impossible, undertaking.

2020 Q1 Earnings Season Preview    

That’s when everyone in the market will start paying attention to the Q1 earnings season. Unfortunately for us, we don’t have the luxury to wait that long as we are responsible for maintaining the ‘books’ on every earnings season.

From our standpoint, the 2020 Q1 earnings season has actually gotten underway already. Including the March 19 release from Cintas CTAS, we now have results from 10 such S&P 500 members that includes bellwether operators like FedEx FDX, Adobe ADBE and others.

The majority of companies use calendar quarters as their fiscal reporting periods. But as we all know, fiscal and calendar quarters don’t match for all companies, as is the case with Cintas, FedEx, Adobe, and others whose fiscal quarters ended in February. We club such fiscal February-quarter results as part of our March-quarter tally. It is in this context that the 2020 Q1 earnings season has gotten underway for us already.

We have another 4 S&P 500 members with fiscal quarters ending in February on deck to report such 2019 Q1 results this week, which includes Nike NKE and Micron MU. The fact is that by the time the JPMorgan JPM and Wells Fargo WFC come around to report their March-quarter results on April 14th, we will have seen 2020 Q1 results from almost two dozen S&P 500 members already.

The Coronavirus Impact

Needless to say, this global pandemic is the biggest cloud on the earnings horizon, as it has such an overwhelming impact on the economic and operating environment in which these companies operate.

Each of the four index members that have reported already mentioned the virus outbreak in their releases, with Costco COST reporting a +12.1% same-store sales growth in February as nervous shoppers stocked up on essential supplies. But for most other companies, the pandemic has undoubtedly been a negative development whose full impact they are struggling to quantify.

The chart below shows how estimates for 2020 Q1 have evolved since the quarter got underway.





The pace of estimate cuts has accelerated in recent days, with the magnitude of cuts to Q1 estimates now larger than any other recent comparable quarter.

Estimates for 2020 Q2 have been coming down as well and now remain in negative territory, as the highlighted portion of the chart below shows.





As you can see above, consensus estimates show growth resuming in the back half of the year. But that view likely reflects the hope that the pandemic and its associated effects get under control in the coming months. Hard to tell at this stage as to how reasonable or otherwise this expectation.

The chart below puts earnings and revenue growth expectations for full-year 2020 in the context of where growth has been in recent years and what is expected next year.





The ongoing market sell-off shows there isn’t a lot of confidence in these consensus expectations. That will likely change only once visibility on containment of the pandemic improves, which will enable companies to get a handle on the full extent of their exposure and the pandemic’s macroeconomic impact.

For an in-depth look at the overall earnings picture and expectations for Q1, please check out our weekly Earnings Trends report >>>> The Earnings Uncertainty

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