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Tentative Markets Reflect Earnings Doubts

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Thursday, May 1, 2014

Stocks have struggled this year after last year’s impressive gains, though the broad indexes are either at or very close to their all-time record levels. One of the reasons for the market’s tentative behavior is the uncertain corporate earnings growth outlook, as reflected in the ongoing Q1 earnings season.

The U.S. economy has been struggling with similar growth challenges lately as Wednesday’s shockingly low GDP growth in the first quarter of the year showed. The market shrugged that unusually low reading as it could take solace from the more recent data that is pointing towards economic growth getting back to its second half 2013 trend line in the coming days.

This morning’s strong personal income and spending data indicates that the economy had started shaking off the winter effects by March. Friday’s non-farm payroll report for April is broadly expected to reconfirm what we saw from Wednesday’s ADP report and other recent readings – that the growth pace is getting resumed. The Fed is pointing in that direction as well, with its post-meeting statement on Wednesday acknowledging the improved outlook.

The favorable views on GDP growth and beyond are not matched by how the earnings picture is unfolding in the ongoing Q1 earnings season where we are now past the halfway mark. Including this morning’s reports from ExxonMobil (XOM - Free Report) , Kellogg (K - Free Report) , MasterCard (MA - Free Report) and others, we now have Q1 results from 344 S&P 500 members that combined account for almost 73.3% of the index’s total market capitalization. Total earnings for these 344 companies are up +2.7% from the same period last year on +2.6% higher revenues, with 68.9% beating EPS estimates and 41.2% coming out with positive revenue surprises.

This is weak performance, but all or most of it was known ahead of time as estimates had come down sharply ahead of the start of the Q1 reporting season. Many had been hoping, however, that we wouldn’t see similar negative revisions going forward. But we are not seeing that, with estimates for Q2 coming down along the lines of the trend that we have been seeing quarter after quarter for almost two years now.

One month into 2014 Q2, total earnings for the quarter are currently expected to be up +4.2% from the same period last year, a growth rate that is down from +5.5% about a month ago. This is a somewhat slower pace of negative revision than what we saw in the comparable period in Q1. But as the GDP report for Q1 confirmed, weather really was a big headwind in that time period. Adjusting for the weather effects in Q1, the revisions trend in both periods is largely comparable.

Sheraz Mian
Director of Research


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