Two of the major indices in US , S&P 500 and Nasdaq ended the week modestly lower. Sectors were mostly lower and mixed and growth equities underperformed value. Treasuries were mostly higher with curve flattening, with the 2-yield to 10-yield spread inverting the most since 2000. The dollar index was up 1%, higher for a third straight week. The dollar hit parity with the euro for the first time in 20 years.
The second quarter earnings season for the S&P 500 has been weaker than normal, even though approximately only 33 out of the 500 have reported. Of these companies, 60% have reported actual EPS above estimates, which is below the five-year average of 77%.
“Negative earnings surprises reported by companies in the financial sector and downward revisions to estimates for a company in the Industrials sector were substantial contributors to the decline in the earnings growth rate over the past week. Upward revisions to estimates for companies in the Energy sector have been the largest contributor to the overall increase in earnings for the index since the end of the second quarter (June 30)”
In terms of revenues, 60% of S&P 500 companies have reported actual revenues above estimates, which is below the five-year average of 69%. Looking forward, analysts expect earnings growth of 10.1% for Q3 2022, and 9.2% for Q4 2022. For CY 2022, analysts are predicting earnings growth of 9.9%.
”The forward 12-month P/E ratio is 15.8, which is below the five-year average (18.6) and below the 10-year average (17.0)”.
Bank stocks have been hammered this year over concerns that the U.S. is facing a recession, which would lead to a surge in loan losses. By reducing dividend payouts and pausing buybacks, the banks can increase capital to help them reach their required reserve targets.
It’s our filling that if the economy doesn’t pick up later in the year this number sounds optimistic. While stocks have recently rallied, the strength of the U.S. dollar has risen sharply over the past year, presenting a major potential headwind for equities for many large multinationals in the coming earnings season. The U.S. dollar is now up approximately 16% year over year
As those concerns persist, investors are looking for opportunities in the markets. One strategy includes investing in sectors such as banking and energy, which have come off their highs and will benefit from several factors such as dividends and steady cash flows.
"If consumer sentiment were to improve — which would happen if gas prices and food prices come back down, and industrial commodity prices which we're starting to see coming down due to recession fears— you could see consumer sentiment improve and that would immediately positively impact consumer discretionary sectors which has been out of favor.
Why the Euro Has Tumbled Near Parity to the US Dollar?
A combination of Europe’s front-line exposure to Russia’s war in Ukraine and the European Central Bank’s tardiness in raising interest rates have driven it nearer to parity, or a 1:1 ratio with the dollar. It’s the first time it has been to that level since 2002, in the early years of the euro’s existence. Europe is affected the most from the war, which has caused an energy crisis and could lead to potentially a long and deep recession. That places the ECB in a difficult position – trying to restrict inflation and cushion a slowing economy. At the same time, the US Federal Reserve is raising interest rates much faster than the 19-nation euro area. That makes yields on US Treasury bonds higher than those on Europe’s debt, pushing investors to the dollar and away from the euro. In addition, the US dollar benefits from its status as a haven. The 1:1 level is a psychological point for the market. The first time the euro fell to parity with the dollar was in December 1999. The euro is considered one of world’s key currencies for transactions and reserves, though hitting parity is still symbolic. For the financial markets, currency traders expect tumult around the 1:1 level given that billions of euros in options bets. Still, when measured against other currencies apart from the dollar, the euro looks more resilient. If we have seen the bottom is hard to say since there a lot of analysts and FX traders that are betting towards 0.95 and in extremes cases 0.90 euros to the dollar especially if Russia escalates the crisis by withholding the supply of gas to Europe. July 21st is an important date to keep in mind.
By the time the Fed had delivered 150 basis points of interest-rate hikes in just three months, the ECB had yet to move, keeping its key rate negative Narrowing the interest-rate differential between US and other global bond markets could help a turnaround in the FX markets. Raising rates is harder for the ECB than other central banks. That’s because the borrowing costs of more indebted euro- area nations like Italy, Spain, Greece and other countries can raise the question of their ability to serve and sustain their debt. The rise of “euroskeptic” politicians in Italy and elsewhere has also caused a concern over the resilience of the bloc.
Equity and bond market volatility will remain elevated until there’s greater clarity on the path of inflation. Having in Mind that the Treasury yield curve is inverted, the purchasing managers’ index, which tracks service and manufacturing sectors declined and the Federal Reserve report of the first-quarter GDP growth at -1.6%, and the second-quarter GDP estimate suggestion of another contraction we see investors to slowly rotate out of credit and value stocks toward long-duration growth assets, which tend to be viewed more favorably when rates remain low or decline. Investors are seeing interest rate cuts during the first half of 2023 and they are declaring the market turmoil likely over now that recession risks are priced in.
We prefer to be more cautious as 1) Inflation is far from being tamed although is peeking in the next two months and 2) interest rate continue to rise. We would like to see the second-quarter earnings guidance and labor-market data.