Stocks firmer, China slows, earnings in focus
Bad news = good news. Relatively lacklustre growth in China has the market baying for more stimulus. To be fair, despite the headline Q2 GDP number slipping to a 30-year low at 6.2%, there were some signs of encouragement. Industrial production rose 6.3% in June, an improvement on the 5% growth in May. Retail sales also beat forecasts so. Most of the recent softness seems trade-related, with exports having dipped 1.3%.
Asia has broadly ticked higher despite, or indeed because of, the softer China GDP numbers. Futures show European markets are higher after a fairly lacklustre weak. Indeed European equity markets moved lower last week just as the US was punching record highs. Time for Draghi and co to turn the taps on.
Indices march higher
Wall Street continues to roar higher, with the S&P 500 closing up half a percent on the day at 3,013.77. Oil and gold fairly steady.
Bitcoin is weaker, slipping to support around $10k having given up the $11,600 level. FX steady – GBPUSD holding at 1.2570, with EURUSD at 1.1270. Volatility in FX has collapsed with central banks turning the liquidity taps back on.
Earnings season kicks off
Earnings season is coming with fairly low expectations. Two weeks prior to earnings season 82% of companies that had revised earnings estimates going into the reporting period had lowered them. Lowballing by Wall Street ahead of earnings season is normal, but the scale of the downward revisions is noteworthy. This happened ahead of the Q3 2018 earnings, just before we saw stocks slump into a bear market, albeit one that has proved very temporary.
Recession – We’re likely to see an earnings recession. Q1 earnings declined 0.29%, therefore making this likely to become a full-blown earnings recession, that is, back-to-back year-on-year declines in EPS. In 2016, the last time this happened, we saw earnings decline for 4 straight quarters. S&P 500 companies are expected to report a roughly 3% decline in EPS this quarter.
Trade concerns – whilst we had a degree of détente at the G20, existing tariffs are still in place and no meaningful progress has been seen. There’s a growing acceptance that the US and China are in this for the long-haul. The US election cycle means we are unlikely to see a reason for Trump to do any deal until 2020. Whilst for now the mood is upbeat, in the event of no deal, the lack of progress through the rest of the year would likely begin to drag on sentiment and affect equity markets. If corporates see additional tariffs being imposed their EPS forecasts would need to be revised substantially lower. The impact of the US-China trade war on earnings is yet to be fully felt but we could hear from a number of large-caps voicing concerns. The extent to which CFOs highlight worry about trade on EPS forecasts will be of particular importance. Of course we are likely to see a lot of kitchen sinking with companies blaming trade for all manner of ills.
Banks start the ball rolling this week. Big question over interest rates – rate cuts may well be coming in the US and this will have implications for banks. Net interest margin would likely fall although the easier credit conditions would offset some of the negative effects. Citigroup unofficially kicks off the earnings season on Wall Street today. How much will banks be affected by Fed rate cuts? In investment banking, is there anything from the Deutsche carcass worth stripping?
Sports Direct – the soap opera continues – delays annual results due to House of Fraser uncertainty. The big question was what impact House of Fraser and various other acquisitions of dubious value would have on Sports Direct results. A material impact, one can only assume. HoF must be losing money hand over fist. Looking to the earnings, top line growth is expected to rise but profits are seen weaker as the cost of acquisitions weighs. Since reporting an 27% decline in underlying profits in the first half we’ve not heard a peep from Sports Direct on performance. The delay in delivering the annual results does not sit well with investors, who must be nervous about what it means. It seems likely it’s been a tough ride in the core Sports Direct retail division, whilst acquisitions have added nothing but increased costs.
Apple earnings preview: eyes on services revs, margins and China
A whopper of a profits warning at the beginning of January has done nothing to dent Apple’s share price performance in 2019, which is +40% higher this year. So what happens now, with expectations reset lower? Here’s our quick take on what to expect as Apple reports its fiscal second quarter numbers after the close on Tuesday.
It’s all about the pivot away from iPhone unit sales to focus investor attention on Services revenues and the wider Apple ecosystem. Of course, iPhone unit sales won’t be reported.
Q1 marked a 5% decline in revenues company wide as revenues from iPhone sales declined 15%. Total revenues from everything else plus services was up 19%.
In its Q1 earnings update the company provided the following guidance for Q2:
- revenue between $55 billion and $59 billion
- gross margin between 37 percent and 38 percent
- operating expenses between $8.5 billion and $8.6 billion
- other income/(expense) of $300 million
- tax rate of approximately 17 percent
Wall Street is anticipating EPS of $2.36 v $2.73 a year ago, whilst revenues are also seen declining from $61.1bn last year to $57.4bn.
Dial back to the Jan warning from Tim Cook and it was China where the real trouble lay. We would expect some improvement here to be seen in this quarter’s numbers with demand for iPhones picking up again in the wake of price cuts.
Services in focus
On Services, clearly the marked it eyeing another bumper jump in revenues, which were up 19.1% in the first quarter. But the impact on overall margins will also be important. The higher margins here should deliver ongoing support to group margins. For Q1, it reported Services margins of 62.8% against 58.3% in the year before.
We’ll also be looking for anything relating to its suite of new products launched in March – credit card, streaming service, News+ and Arcade. Whilst only News+ was available after the launch event, we may get more of a feel of how these services will affect the bottom line – pricing will be of particular importance. Don’t hold out for much detail in the earnings report, although there could be something in the earnings call.
Markets will also be eyeing capital returns. A year ago the company committed to $100 in buybacks and dividends over a two-year period. We may well Apple outline further capital returns via an increase in the dividend (10% is being talked about, against a 16% rise last year) and more buybacks. Even if the number are a touch soggy the prospect of more capital returns should keep investors on side.
Average price target from the 36 analysts we track suggests a 3% downside to the current price at a little short of $200. Following a strong showing so far in 2019, Tuesday’s earnings may result in some changes to price targets on the upside.
Key focus: Are Services revenues really going to continue to accelerate enough to offset the plateau in iPhone sales? Is there evidence of a bounce back in China?
Morning note: SPX record intra-day high, China data soft, Alphabet miss
The S&P 500 notched up a fresh record high as spending and inflation data showed lots of the former and not much of the latter. Stand down on the stagflation klaxon, prints like yesterday’s are good for risk and keep the Fed on the leash. Meanwhile corporates are beating on earnings and we now may be set to avoid the earnings recession which was expected.
PCE inflation, the Fed’s preferred gauge, came in at 1.6%. Spending was much stronger with consumer spending +0.9%, the fastest growth since 2009. FOMC meeting decision tomorrow will likely not offer too many surprises. Without inflation really coming through there is not the pressure on the Fed to raise rates. Markets though are still – in my view – underestimating likelihood of a hike this year. Policymakers will have to acknowledge the risks to financial stability and the impressive Q1 GDP print.
Data from China overnight is bad for risk. China manufacturing activity was weaker than expected overnight, with the April purchasing managers indices disappointing. The official PMI came in at 50.1, whilst the Caixin number was 50.2. The gauges are barely in expansion territory and having jumped in March, the figures are a bit of a disappointment. Export orders were weak and it all rather suggests there could be a bit more softness to come.
Eyes now on flash data from the Eurozone for any clues about a rebound in the global economy. Don’t hold your breath.
Alphabet earnings miss forecasts
Alphabet earnings were a big disappointment as revenue growth missed expectations. More competition for sure is a factor as the likes of Amazon and Facebook March forwards. Google will have to get used to competition more – last quarter’s report was a bit of heads up on that front and this quarter’s numbers confirm it.
A tough comparison to last year was also a factor as changes to YouTube a year ago delivering a boost then that was not repeated this year. FX headwinds were also a big factor in the slower revenue growth and should not be ignored. Sales of the Google Pixel have also proved disappointing.
Overall, revenues rose 17% yoy, to $36.3bn, the slowest pace in three years and well short of the 20% expected. Income beat, though, with EPS at $11.90 versus the $10.53 expected, excluding a EU fine of €1.7bn, which brought earnings down to $9.50 a share. Shares in Alphabet were down 7% in after-market trading having hit a record high earlier. The market may be punishing Alphabet just a little harshly when you consider the impact of FX headwinds in these numbers.