What could second quarter earnings mean for the economy?


Anthony Saglimbene, Ameriprise Global Market Strategist, Ameriprise Investment Research Group

As of Aug. 17, 2020

Key Points

  • U.S. corporate profits and GDP shrank over 30% in the second quarter, but that was better than expected.
  • Health and mobility trends, back-to-school scenarios and the employment picture suggest continued caution for investors.
  • However, we believe U.S. economic and business activity should improve in the second half of the year.

Data source: FactSet1

 

U.S. corporate profit reports for the second quarter are mostly complete. Overall, earnings per share declined roughly 34% year-over-year on sales that fell almost 10%. The deep contraction in profits marked the largest year-over-year decline since the first quarter of 2009 (-35.4%), according to FactSet.

Earnings fell dramatically in the Energy, Industrials and Consumer Discretionary sectors (except Amazon). In contrast, profits remained steady in Utilities, Health Care and Information Technology sectors. 

Below are a few additional observations from the earnings season and what’s ahead.

The second quarter wasn’t as harsh for corporate America as initially feared, and stocks moved higher on “less bad” earnings reports. Bespoke Investment Group noted that roughly 83% of companies in the S&P 500® Index offered no profit guidance for Q2. As a result, analysts slashed expectations for profit growth heading into the earnings season. However, the same percentage of S&P 500 companies beat those lowered analyst expectations when actual results were reported — the highest “beat rate” since 2008, per FactSet.

Revenues also surpassed analysts’ lowered expectations. Sales revenue is a direct result of consumer demand, company operations and competitive footprints. For the second quarter, more than 60% of S&P 500 companies surpassed analysts’ lowered revenue expectations. This is higher than the five-year average for actual vs. estimated revenue, according to FactSet.

More companies appear willing to say they see improvement ahead, with Q2 possibly marking the low point in the economic downturn. In our view, this is a positive development that reflects the "less bad" environment. Admittedly, COVID-19 uncertainties will continue to shape the operating environment, and companies likely will communicate profit estimates more conservatively. However, corporate guidance trends are improving. In our view, this helps validate other data points that suggest the economy is on the road toward recovery.

Stocks remain a barometer for investors’ view of the future, not the past. Amid the uncertainties of back-to-school scenarios and COVID-19 trends — as well as plateauing mobility trends, TSA checkpoint volumes and dining reservations — investors still believe overall activity in the economy should improve over the coming quarters. This is reflected in the upward trajectory of stock prices in recent months.

Big Tech is leading U.S. stocks higher. Apple has nearly doubled its market-capitalization in the last 12 months. It now accounts for 6.5% of the S&P 500, surpassing IBM’s record in 1985, according to Bloomberg. Beyond Apple, investors have gravitated to several other large, high-quality companies with strong long-term tailwinds — namely Microsoft, Google, Amazon and Facebook. Their profit trends and market dominance improved in the second quarter. As a result, their share prices have moved higher over recent weeks.

Looking ahead through the remainder of the year, improvements in consumer trends and inventories could support a rebound in business activity and higher equity prices. We also believe it is wise to maintain a well-diversified, high-quality portfolio — and be prepared to anchor to it if and when volatility picks up in the fall.

 

Data source for indices and sector graphs: Morningstar Direct, as of August 7, 2020.

Past performance is not a guarantee of future results.

Unless otherwise noted, all data is sourced from FactSet as of 7/31/20. FactSet is an independent investment research management company that compiles and provides financial data and analytics to firms and investment professionals.