It goes without saying that this will be a reporting season unlike any other. For some companies less impacted by the COVID-19 pandemic, the numbers may appear normal. For others, the focus will be on balance sheet strength and survival. The separation between winners and losers is widening in this environment.
Turning to the numbers, index earnings are tracking to a 14% year-over-year decline, down from the 4% increase expected on January 1 and 5% decrease expected as of March 31. We think even these lowered estimates may be tough to achieve, given heightened uncertainty during the pandemic, the significant number of companies that have withdrawn their guidance for analysts, and lingering stale estimates.
We highlight four main themes for this earnings season:
Do not count on a low bar. The bar has been lowered significantly, which is typically a recipe for better-than-expected results. According to Bespoke Investment Group, analysts have raised estimates for only 88 companies in the S&P 1500 Index over the past four weeks, while 1,236 companies have seen estimate cuts, the most since at least 2008. However, with so many companies having pulled their guidance, and the dramatic changes in economic conditions over the last few weeks of the quarter, misses may be more prevalent than they typically might have been, even in a recession.
There will be winners. This environment may also provide opportunities for some well-positioned companies:
- So-called “stay-at-home stocks,” many of them in internet, digital media, and e-commerce, have performed well recently in anticipation of strong results.
- Many consumer staples companies are helping us stock our shelves and eat our meals at home.
- Even before COVID-19, healthcare companies enjoyed perhaps the best visibility into their near-term earnings prospects. They are playing a key role in testing and treatment and are big stimulus recipients.
- Results for the technology sector may surprise to the upside based on the relative resilience of the sector’s estimates in recent weeks and current mobility and work-from-home trends.
Finding the floor. For companies most impacted by COVID-19, the focus will be on survival more than anything else. It will be about balance sheets and cash piles. Some of the hardest hit areas will include travel related businesses, such as airlines and hotels, and certain brick-and-mortar retailers, restaurants, and entertainment companies that are deemed non-essential and depend on public gatherings. With oil prices having fallen more than 60% in the first quarter, earnings in the energy sector may be extremely challenged.
All about guidance and scenarios. With so many companies pulling their outlooks, analysts and strategists forecasting in this environment have had to do some guessing. Given the uncertainty, investors will be looking for help developing credible scenarios depending on how long the stay-at-home orders remain in place. Every country and state is in a different place, increasing forecasting difficulty.
Forecasting in this environment is a challenge.
Recession almost certainly began in March. We have enough evidence to say with confidence that a recession began in late March. The contraction in US economic activity, measured by gross domestic product, may exceed 10% during the second quarter (not annualized). The unemployment rate is at its highest level since the Great Depression, possibly in the low-to-mid teens.
Containment efforts are working. In terms of beating this virus, social distancing is working, and the outbreak already may have passed its peak in the United States. The progress has opened the door to easing some lockdown restrictions and a gradual reopening of many state economies in the United States beginning as soon as this week. The Trump administration’s guidelines for reopening, released April 16, likely contributed to the recent stock market rally by shoring up confidence in the recovery. Some promising treatments in development also helped.
Estimates have collapsed. Finally, consensus 2020 earnings estimates for the S&P 500 have fallen precipitously in recent weeks to around $145, according to FactSet.
Based on containment progress and prospects for recovery, $138–142 in S&P 500 earnings per share (EPS) for 2020 is a reasonable expectation. That is only a 15% drop from 2019 and in the range of declines observed in prior short-lived recessions not accompanied by a full-blown financial crisis. Uncertainty introduces potential further downside risk.
For tactical investors, patience is prudent. Stocks may have come back up too fast and that an additional pullback which tests prior lows may be likely. Historically, patterns following prior bear market lows support this view.
The views expressed are provided for information only and are not to be used or considered as an offer or solicitation to buy or sell securities or investment products. To determine which investment(s) may be appropriate for you consult your financial advisor.
- The economic forecast set forth in this presentation may not develop as predicted, and there can be no guarantee that strategies promoted will be successful.
- Data provided by LPL Financial, Bespoke Investment Group, Factset.
- All investing involves risk including loss of principal.
- All indices are unmanaged and cannot be invested into directly.