Weak Earnings + Taper Delay = Higher Stocks

Mon, Oct 21, 2013 - 9:16am

Markets have plenty to chew on this week – from a flood of Q3 earnings reports, including more than 140 from S&P 500 members, to a host of economic data that got delayed as a result of the shutdown. The earnings season has been underwhelming thus far, with companies struggling to beat expectations despite the lowered estimates. But investors may not be looking for inspiration to the earnings season. The growing likelihood of a Fed Taper delay as a result of the shutdown is good enough for investors to push stocks higher, with or without earnings growth.

On the earnings front, McDonald’s (MCD) was able to edge past earnings and revenue expectations, despite modestly weaker than expected same-store sales numbers. The company expects the challenging operating environment to continue pressuring results. VF Corp. (VFC) came out with a solid earnings beat though it missed on revenues, as margins benefited from greater focus on higher-margin merchandize. In other reports, Hasbro (HAS) beat on both the top and bottom-lines, while Halliburton (HAL) modestly beat on EPS, but missed on the top line. Netflix (NFLX) and Discover Financial (DFS) are the key reports coming out after the close today. Including this morning’s reports, we now have Q3 results from 104 S&P 500 members that combined account for account for 31% of the index’s total membership.

Total earnings for these 104 companies are up +1.3%, with 63.5% coming ahead of consensus earnings expectations. Total revenues are up +2.2% and 41.3% are beating top-line expectations. The results thus far are weaker than what we have seen for this same group of companies in recent quarters. The +1.3% earnings growth in Q3 for these companies compares to +11.4% in Q2 and the 4-quarter average of +5.9%, while the +2.2% revenue growth is below Q2’s +4% and the 4-quarter’s average of +4.1%. The beat ratios are similarly tracking lower.

With results from more than 50% of the sector’s total market capitalization already known, Finance has perhaps the most representative sample of Q3 results of the major sectors. Total Finance sector are earnings are up +14.6% from the same period last year, with strong year-over-year gains at Bank of America (BAC) and Morgan Stanley (MS) driving most of the gain. Bank of America had a particularly easy comparison this quarter, resulting in a positive $3 billion swing in total earnings.

The Bank of America strength helped total earnings growth for the ‘Major Banks’ industry, which alone accounts for more than 45% of the Finance sector’s total earnings, to +15.3% in Q3, below Q2’s +30.9% gain. J.P. Morgan (JPM) and Wells Fargo (WFC) were far smaller contributors to growth this time around. Finance sector results in Q3, in terms of growth rates and beat ratios, are weaker than what we saw from the sector in Q2 and the last few quarters. The sector’s decelerated growth picture notwithstanding, it is still solely responsible for keeping the aggregate growth rate for the S&P 500 in the positive column.

Beyond earnings, we will be getting a slew of economic reports this week that couldn’t come out at their scheduled dates due to the shutdown. We will be getting the September CPI and PPI numbers, but the most important report this week will be the September non-farm payroll report now coming out tomorrow (October 22nd). The expectation is for gains of 185K on the ‘headline’ after August’s 169K reading, with the unemployment rate remaining unchanged at 7.3%.

The market will be looking at the jobs data with the Fed’s next week’s meeting in mind. Given the shutdown related distortions to data and also the still-unsettled budget battles in Congress that have only been deferred for a few more months, many in the market expect the Fed sit pat on the QE question in next week’s meeting. In fact, many in the market don’t expect the Fed to start ‘Tapering’ QE till late Spring 2014.

Hard to tell at this stage how the Fed question will evolve, particularly given the scheduled succession at the top of the central bank. What we do know, however, is that the Taper is on the way, but it’s starting point is unclear at this stage. Nothing makes investors happier than a Taper delay and we are seeing evidence of that in the stock market’s push ever higher levels.

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