It is earnings season in the US, and though it is early days with just over 150 counters in the S&P 500 having filed their earnings, there are still some trends and themes worth noting.
The previous earnings season provided some market relief, with positive earnings surprises leading to strong rallies, particularly in tech counters. Markets looked past the “higher for longer” interest rate prospect, which had led to drawdowns earlier in the year. As inflation continues to disappoint, can this earnings season do the same for markets and continue to support valuations?
Thus far, aggregate earnings and sales growth have been positive on a year-on-year basis, delivering low single digits, with more than 60% of the counters in the green over the period. The largest earnings growth has come from the tech sector, as we continue to see strong recoveries.
One such counter is streaming giant Netflix, which posted double-digit growth in both revenue and earnings per share on the back of higher paid membership. It recorded double-digit growth in subscribers, adding a net 9-million. This reflected the company’s successful strategy to crack down on password sharing and the introduction of a tiered pricing system, with lower-cost tiers attracting advertising revenue for the company.
Semiconductor counter Micron Technologies recorded strong growth in both revenue and earnings per share as it continues to benefit from the global shortage and increased demand in chips, while offering better valuation metrics than its competitor, Nvidia. Furthermore, Micron Technologies has started mass production of memory chips used in Nvidia’s artificial intelligence (AI) chips, making their relationship less linear and allowing them to positively participate in Nvidia’s success.
Looking at the finance sector, and in particular banks, JPMorgan continues to prove a resilient market leader, delivering high single-digit revenue growth and more moderate earnings per share growth in the low single digits — with both net interest income and non-interest revenue adding positively.
Overall, we have continued to see positive surprises in revenue and earnings growth, with more than 80% of the counters surprising positively. Nonetheless, markets have not yet had similar rallies to those seen in the previous earnings season, with the aggregate market response being slightly negative.
US inflation
From an economic perspective, the past couple of months have had negative surprises around the US inflation print as core inflation remains stubbornly elevated, mainly owing to services, while some of the cyclical elements, such as energy and food price inflation, have ticked up. Inflation expectations have therefore remained sticky, with fear of a resurgence.
Meanwhile, unemployment levels have stayed low while economic growth has remained resilient, which means there is little pressure for the US Federal Reserve to start cutting rates. Markets have therefore been grappling with further negative revisions of interest rate expectations, increasingly expecting them to remain higher for longer, pricing fewer rate cuts and further out into the future.
Part of the consequence is company earnings being revised negatively over the near term, despite surprising on the upside in the current season. This is compounded in counters with stretched valuations.
As we continue to track the earnings season, we do not expect it to result in similar rallies in the short term. From our perspective, interest rates continue to pose a risk, particularly as the Fed begins to settle on a natural rate that would not result in any business cycle shocks.
However, we continue to find opportunities in the market, with strong long-term investment cases, including the counters mentioned above, which we hold in our global equity portfolios.
• Smith is chief investment officer at Absa Investments.
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