Weekly Brief: The Stage Is Set For An Earnings Season That Could Make Or Break 2021

Weekly Brief: The Stage Is Set For An Earnings Season That Could Make Or Break 2021

over 2 years ago3 mins

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The third quarter has wrapped, investors are getting ready for 2021’s final act, and there’s one protagonist that’s most likely to drive this quarter’s performance: earnings season.

🕰 Recap

  • US stocks have never been hotter than in mid-August, having risen 21% this year
  • But certain stocks have struggled since: Nike’s, for example, fell last month after its quarterly update highlighted issues in the company’s supply chain
  • And a crunch in the supply of workers sent FedEx’s quarterly earnings tumbling versus the same time last year
  • Still, analysts are expecting stocks in the S&P 500 to deliver their third-highest earnings growth since 2010

✍️ Connecting The Dots

The third quarter has historically been the worst time of the year for US stocks, but 2021 has broken with convention. The S&P 500 saw its sixth quarterly gain in a row, and it had the energy sector to thank: energy stocks – buoyed by booming oil and gas prices – were up 5% on average last quarter. Tech stocks weren’t so lucky: Facebook, Amazon, Apple, Netflix, and Alphabet had almost $490 billion wiped from their collective value in September alone. In fact, September was the worst month for US stocks since coronavirus knocked markets in March 2020.

That shaky September might’ve left investors feeling even more nervous at a time when there are already plenty of reasons to be. Inflation – which central banks promised would be “transitory” – is looking more and more permanent, while supply chain bottlenecks and the Delta variant have continued to hamper recoveries. That might be why economists who had previously forecasted another strong quarter of economic growth have been cutting their estimates left and right, and why broader economic data has been falling short of expectations.

So, we’re left with investors – and by extension markets – looking for direction, which makes the upcoming earnings season more important than ever. Analysts are expecting profits to come in 28% higher on average than the same time last year, and companies will need to meet that high bar if stocks aren’t going to take another tumble. The energy, materials, and industrial industries are expected to deliver the highest earnings growth, while consumer staples and utilities stocks are set to deliver the lowest.

🥡 Takeaways: How to play earnings season and beyond

1. Watch supply chains and oil.

Two of the biggest issues threatening company earnings are blocked supply chains and high energy prices. The former has already delayed companies from getting parts and products to where they need to be, particularly in consumer and industrial industries. In fact, it’s led fourth-quarter earnings estimates to fall an average of 4% so far. As for energy, oil prices are up about 50% this year, which is good news for suppliers but bad news for buyers. Overall, though, higher oil prices do more good than bad: every 10% increase boosts S&P 500 earnings by 0.3%.

2. Watch labor costs and China.

There’s a shortage of workers wherever you look, and companies are offering higher wages to attract the ones that are out there. All else equal, a 1% increase in wages reduces the average S&P 500 company’s profit by 0.7%. But all else isn’t equal: bigger companies are less likely to feel the pinch than smaller companies, and industrials, and consumer firms – all of which tend to have lower profit margins and higher labor costs as a proportion of sales – will be hit harder than most. As for China, slower economic growth in the country will reverberate globally, and the US semiconductor and tech hardware industries – which make 43% and 11% of their sales to China respectively – will feel it most.

🎯 Also On Our Radar

There’s an interesting trend worth being aware of if you’re an investor who dabbles in Chinese bonds. Historically, “high-yield” non-property bonds were a riskier bet than property bonds in China, but that’s flipped on its head given the struggles of property giants Evergrande and Fantasia. But if you’re aware that this typical pattern has reversed, you might be able to uncover mispriced assets.

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