Earnings season starts this week, and it should be illuminating.
by Jurrien Timmer, Director of Global Macro, Fidelity Investments
Key takeaways
- The US stock market has been range-bound since June 8, fueled by monetary stimulus from the Fed and hopes for a second round of fiscal stimulus.
- Earnings season starts this week and that may provide more information for markets. Earnings estimates have been flatlining lately, which is quite unusual, as companies have stopped providing guidance to analysts amid all the economic uncertainty.
- Earnings estimates could be too high or too low but there are a couple of reasons for optimism, including a historical analog in the global financial crisis and an uptick in an important indicator, the Fed's Weekly Economic Index.
Markets remain in a state of internal conflict, with the secular growers rising ever higher, while small caps and value continue to lag ever farther behind. This is in stark contrast to the broadening out that we saw in May and early June.
From the March 23 low to the June 8 high, we got incrementally better breadth, culminating in a retail-led "buying climax" on June 8. Since that day, the market has been range-bound and the breadth data have been churning.
With the rising COVID-19 curve in a number of states complicating plans for re-opening the economy, the market, in my view, continues to be led by the Fed's policy accommodation, as well as the promise of more fiscal relief.
For now, the S&P 500 (SPX) continues to follow a middle-of-the-road consolidation path following its momentum peak on June 8.
In the broader market, we seem to have arrived at a moment of truth, and right on the cusp of earnings season.
Earnings season is here
Speaking of earnings, Q2 earnings season starts this week. It should be an interesting one, given how flat the estimate curves have been lately. Either analysts know what earnings will be (and therefore don't need to update their estimates), or they have no idea (so why bother tinkering with the numbers?). I suspect it's the latter.
This chart shows the quarterly estimate curves.
And this chart shows the fiscal year curves.
The 2020 estimate has fallen from $186 to $123, while the 2021 estimate has dropped from $193 to $159.
So, are earnings estimates too high or too low? It could be either. My first thought is that they could be too high, given how V-shaped the estimates are for the next 6 quarters. In my experience, high expectations often lead to disappointment.
The only other time that we have seen such high expectations for a turnaround was during the global financial crisis (at the 2009 bottom). Those estimates actually turned out to be correct, so that gives me some comfort that perhaps the current estimates are not too optimistic.
One indicator that gives me some hope that current estimates could be correct or even too low is the Fed's Weekly Economic Index (the green line in the "Earnings and the Fed" chart below). That index was tracking the consensus earnings estimate pretty closely, but it has recently been improving quite a bit. Perhaps earnings estimates will follow suit once companies start reporting in the weeks ahead.
About the expert
Jurrien Timmer is the director of global macro in Fidelity's Global Asset Allocation Division, specializing in global macro strategy and active asset allocation. He joined Fidelity in 1995 as a technical research analyst.
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