The S&P 500 started and finished the week with small losses, but pushed higher during the midweek sessions. Despite several reporting earnings at or near double digit percentage declines from those the year before, companies beat low earnings estimates at a high rate and investors piled in to push the index 1.62% higher. Wednesday’s rally accounted for the majority of the past week’s gains with nearly all of those gains seen in the first five minutes of trading. The index saw a large gap higher that continued to run steeply higher shortly after the open. Although Tuesday finished with nearly the same session gain, it had to recover Monday’s drop while Thursday finished only 0.36 cents higher. The index has split the last 18 sessions with nine sessions each finishing with losses or gains.
Friday’s session saw oil prices slip fairly steeply from recent highs. The sell off was probably due to traders not wanting to hold through the weekend’s planned OPEC meeting in Doha, Qatar. The recent run up in prices was on speculation that OPEC countries could come to an agreement on an output freeze. Not all OPEC members will attend and some that will not, like Iran, still plan to continue to increase production. There appears to be little reason to believe an output freeze could have any real effect on supply for many years and even if those in attendance agree to a freeze, history has shown most have cheated on the agreed upon quotas in the past.
Even so some of the Energy Sector constituents led the index in percentage of gains on Friday. These price run ups were despite large profit decreases over the past several quarters and projected negative earnings in their not so distant future. Some also took rather large hits on full year earnings projections during the past week.
The unofficial earnings season kickoff Monday saw Alcoa (AA) report earnings that beat estimates by five cents. This missed the earnings in the same quarter a year ago by 21 cents and was 75 percent lower. Wednesday’s rally was credited to a large earnings beat by JP Morgan (JPM) before the open. The bank reported earnings nine cents above the consensus earnings estimates sparking speculation that bank earnings would come in better than expected. Even with the earnings beat they reported earnings ten cents below the earnings they reported in the same quarter a year ago, representing a seven percent drop in earnings. Much of their current earnings problems have been masked with share repurchases and they announced an additional 1.9 billion for repurchases.
The banks did beat low expectations, but reported similarly poor earnings. On Thursday Bank of America (BA) beat consensus estimates by one cent, but missed the year before earnings by 6 cents or 22 percent. Also on Thursday Wells Fargo (WFC) beat by a penny on earnings that were five cents and about five percent lower than a year ago. Citigroup Inc. (C) reported a seven cent earnings beat Friday, but earnings were 41 cents below the year before or 27 percent lower.
Several companies gave preliminary earnings results during the week and most of these results were very disappointing. This is good news for those buying the high beat rates. It will give those making estimates time to lower the estimates so they can be beaten in a couple weeks, continuing the illusion of good results. Many countries ban estimate changes during the thirty days before earnings reports for this very reason.
Not all companies did poorly with earnings, Delta Airlines Inc. (DAL) reported earnings that beat estimates and were 87 cents above the previous quarter a year ago, but saw revenues slide as they saw passenger reductions. The profit increase was largely due to decreases in fuel costs. The recent increases in fuel could limit these savings in the coming quarter. Although Delta blamed the current slide in passengers on the Brussels airport bombings, many of the airlines have been warning that corporate cost savings measures that are reducing air travel could begin to hit passenger counts. This appears to be reflected in Delta’s expectations of a 2.5% to 4.5% decrease in passenger revenue during the second quarter.
Although there continues to be a hope of improved earnings in the second half of the year, the earnings picture continues to darken. Other than beating a low current quarter estimate, most that reported earnings in the past week had little good news. Most plan to continue or increase cost savings measures. Although the overall numbers were not high, many continued to trim work forces during the past quarter and have plans to continue with workforce reductions. Most that reported saw earnings declines over those reported a year ago. Many have headwinds building that make their rosy future outlook seem unrealistic.
Although they have described losses as limited, the banks are likely to find themselves writing off tens of billions in bad loans to defaulting energy companies. The losses are not limited to banks; these companies will also be forced to default on other corporate debts, including bonds. In the aftermath of an ensuing bankruptcy any stock that was issued will likely become worthless. It seems possible the overall losses could easily surpass $100 billion during the next year.
Current Energy Sector problems could be the tip of the iceberg, although losses are not expected to reach those seen during the 2008 financial crisis, it is too soon to tell how much worse it could get. Until recently most defaults had remained in relatively small companies. The past two weeks show larger companies are having problems too. Former S&P 500 constituent Peabody Energy (BTU) filed for bankruptcy in the past week and Sun Edison (SUNE), who was recently replaced in the S&P 400, could file for bankruptcy protection as soon as Sunday. There are several other very large energy companies that could develop problems in the future. Although they may not yet be considered distressed, several energy companies in the S&P 400 and at least two of those in the S&P 500 have been rated as high risks for default.
As losses mount in those with debt holdings in the sector, it could become increasingly difficult for companies to restructure debt to remain solvent. Pathways used in the past to avert disaster could become blocked due to earlier misfortunes. Banks assured shareholders in the past week’s earnings reports they are tightening the reins on loans to the energy sector due to the large losses they already expect to see. Bond markets are becoming increasingly expensive and fickle. Although some could be left with no alternative, issuing additional shares will likely deepen the drop in share prices making it unlikely this avenue will remain viable for long. Several billionaires have already been burnt on energy sector investments. Although a few are still dabbling in oil debt, those with large losses are likely to leave fewer willing to risk large investments in similar ventures. There appears to be dwindling alternatives for those with looming debt problems to raise much needed capital and this alone could worsen conditions. Some companies could fail simply because a large debt came due they could not restructure.
Many of those that report earnings early in the season have given some of the strongest reports since earnings began to falter over a year ago. Those that reported before the unofficial kickoff Monday had been beating the overall performance of the S&P 500 very consistently. Overall these earnings were not showing appreciable growth from that seen in the year ago quarters, but they held fairly stable double digit percentage increases over a long stretch. Although they still outperformed the remainder of the index, these companies broke that long string of double digit earnings growth during the fourth quarter when earnings were only five percent higher. The just completed first quarter results show this growth is still at about five percent and less than a half of that previously. Projections for the second quarter are currently for six percent growth, but given recent reports, it seems possible these projections could slip as the current quarter progresses. Although currently at a respectable nine percent, third quarter projections have begun to stumble and are about a percent lower than those three months ago.
This appears to illustrate that the indexes top earners could also be beginning to have slowing growth. Some of those that had been leaders in increasing earnings during past quarters guided for negative year over year earnings growth in the second quarter. Although they expect a rebound later, it appears possible they are projecting this rebound more on hope, than reality. Some expect an uptick in second quarter earnings, but do not expect the increase in sales to extend past that quarter. It seems possible the uptick in second quarter sales could put a damper on third quarter earnings as these sales may have moved forward. These factors appear to be leaving third quarter estimates floating too high and it therefore seems possible third quarter estimates could continue to ease.
The companies with strong growth were in the minority during the past few quarters, as a result they drew more investors and many saw stock prices shoot well beyond reasonable earnings growth expectations. The explosion in share prices without appreciable earnings growth to offset these increases sent many of these stocks to very high P/E ratios, making even a slowing in earnings growth a potential pitfall.
The S&P 500 saw one constituent change during the past week and the S&P 400 saw three constituent changes since the last update. Tenet Health Care Corp. (THC) was replaced in the S&P 500 by Ulta Salon, Cosmetics & Fragrance Inc. (ULTA) after Friday’s close. Tenet was moved to the S&P 400 due to its low market capitalization. The replacement continues a trend of large price declines spurring market cap replacements. Tenet finished Friday with a stock price over 50 percent below its highs in the year before.
Due to this portion being skipped in the past week’s article, the earnings data represents a two week change. The following earnings update may not include all constituents that reported earnings during the past two weeks and it could include some that reported earlier. Earnings were found for 17 of the S&P 500 constituents. These constituents reported total earnings that were 17 cents lower than they reported the same quarter a year ago. This was a 0.008 percent decrease in the index’s total trailing twelve month earnings from a week ago and an average decrease of 0.22 percent in those constituents’ TTM earnings. Seven constituents reported earnings greater than the same quarter of a year ago and ten reported earnings below the year ago quarter.
Those that have not yet reported first quarter earnings saw a $2.93 reduction in first quarter earnings projections. There were 83 constituents with increases and 121 constituents saw decreases.
Those that had already reported first quarter earnings prior to the current week saw no overall change in second quarter earnings projections. Two constituents saw projection increases that were evenly offset by two with decreases.
The S&P 500 constituents saw current year earnings projections decrease by $5.20 compared to a week ago. There were 116 constituents that saw their current year projection increase while 159 saw decreases. Every sector saw full year earnings projections slip during the past week except Health Care, which edged only a cent higher. The past week’s full year projections were weighed down by some large decreases in earnings projections in Financials, notably the banks, Information Technologies, mostly in computers and hardware, and Energy Sectors. What is interesting is that some with the largest full year earnings reductions also saw some of the largest stock price increases during the past week. Equally interesting is that beats of full year estimates were not as common in the past year as recent quarterly earnings beats.
The combination of increasing stock prices and slipping earnings left the index with an even weighted trailing twelve month operating earnings P/E above 20 on Thursday. Friday’s small retreat finished with a TTM P/E of 19.9985.
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An increase in volatile conditions was seen on the world indexes during the past week. Although volatile conditions tend to be bearish in nature, the past week’s increased volatility was mostly bullish. Early reports appear to show world corporations mostly reporting earnings below those a year ago, but beating very low estimates and stimulating rallies. There are some good reports, but hints that second half growth might not be as high as currently expected abound.
Volume levels continued to tick higher in the past week. Volume levels edged 4.93% higher in the past week and have increased 12.51% during the past three weeks. Although the past week saw a bullish climb in stock prices into this volume increase, volume levels reached what are normally bearish proportions.
Have a great day trading.
Disclosure: Ron has investments in AA and BAC and has no investments in JPM, WFC, C, DAL, BTU, SUNE, THC or ULTA. He is currently about 51 percent invested long in stocks in his trading accounts reflecting no change in his rounded investment level from the prior week.
The opinions expressed by Ron are his own and may or may not reflect those of byteclay.com. His opinions are the result of many years of data collection, evaluation and extensive research along with his perception of the current conditions and what he thinks is the most probable outcome based on the conditions, data and other variables. Although several of his forecasts have been very close, Ron does not claim to know what the stock market will do. If the stock market performs as expected, it only means he is applying historical data to the current conditions correctly. His perception of the data is not always correct and acting on any information provided is at your own risk. This article is not intended to provide investment advice; but instead to provoke thought about investment possibilities. You are urged to do your own research and where appropriate, seek professional investment advice before acting on any information contained in these articles.