It’s like we’re battling the mythical nine-headed hydra, but with three heads, one being inflation, two being recession, and the third being “how long can S&P 500 earnings estimates hold?”
With the May 22 job count this morning, it seems almost no one mentioned that the “average hourly wage” was +0.3% vs. +0.4% expected.
Pressure on energy (i.e. crude oil) or food prices is unlikely to ease any time soon, but the other components are expected to start to ease. gradually weaken (or so Fed governors keep telling us). The May CPI is due out on Friday, June 10, before the opening bell, and headline CPI is expected to come in at +0.7%, while core CPI is expected at +0.5% , down from the previous one +0.6%. Next week, June 15, is the next FOMC meeting, and fed funds are expected to rise 50 basis points into the 1.50% range.
The 3,800 level held on the S&P 500 (in fact, 3,810 was the May 20th low) which is the key 1/3 retracement level for the S&P 500 according to many good technicians.
Cautious comments on Apple (AAPL) today by Morgan Stanley’s Katy Huberty sent the stock down -3.8%, but it couldn’t even reach average volume. Here’s a quick look at BPA revisions and revenue estimates for Apple:
Note the revisions from 2022: they still look correct. Some of the other FAANG members look much worse. Not much damage here, though (yet).
S&P 500 data from TWIE and Earnings Dashboard: (IBES data from Refinitiv)
- The 4-quarter forward estimate jumped this week to $235.17 from $233.49 last week.
- The PE ratio on the forward estimate was 17.5x versus 17.8x last week;
- The S&P 500 earnings yield hit 5.72% this week from 5.62% last week;
Here’s a part of the earnings spreadsheet (see the spreadsheet above this sentence) that isn’t shown too much: it’s the annual estimates of the S&P 500 EPS with the quarterly bottom-up estimates.
Look at Q1 22: Since April 1 22 or the near start of Q1 22 results, the upward quarterly estimate has risen 6.5%, which is the normal or upper end of the typical “surprise” factor. Q2 ’22 didn’t move at all. And that’s usually not the case before July 1, 22.
We (readers/investors) are reverting to the typical normal pattern of S&P 500 earnings estimates, and it will become even more so after the Q2 22 results since this will be the last raw Covid distortion quarter we will see. In Q2 21, S&P 500 EPS increased 96%, while S&P 500 revenue increased 25%. Doubtful, we’ll see that compare for a while.
Watch credit spreads: Credit “risk” rose sharply last week, alongside the S&P 500’s 6% gain. high quality to what extent the decline in prices was related to duration and to what extent credit deterioration was expected. With economic data holding up and S&P 500 earnings holding up, you have to assume that much of the deterioration in prices for these vehicles was interest rate related. Both LQD and Bloomberg’s investment-grade corporate bond proxies started 2022 with durations above 9%. It was difficult for clients to own this asset class, and we didn’t and took the credit risk in the short-term high-yield bond ETF SHYG and the high-yield municipal funds and at Nuveen’s short-term high yield, but we sold all of them only in early April ’22.
In 2007 and 2008, interest rates fell, but credit spreads widened. In 2022, interest rates rise and credit spreads also widen.
Neither the LQD, nor the AGG, nor Pimco’s BOND ETF fund were able to recover their downward sloping 50-day moving average. They rebounded in its last week, with the average acting as resistance.
The 12 main holdings as of 05/31/22:
- Schwab Money Market Fund
- Blackrock Strategic Inc Fund: -3.70% YTD
- S&P 500 Equal Weight ETF (RSP): -8.11% YTD Return
- JP Morgan Income Fund: -4.62% return since the beginning of the year
- Microsoft (MSFT): -18.79% return since the beginning of the year
- Oakmark International: -9.90% return since the beginning of the year
- Charles Schwab (SCW): -16.17% return since the start of the year
- Tesla (TSLA): -28.25% return since the start of the year
- JPMorgan (JPM): -15.23% return since the start of the year
- Merck (MRK): +21% return since the start of the year
- Pfizer (PFE): -8.82% return since the start of the year
- Amazon (AMZN): -28% YTD return
As of May 31, the SPY was down -12.79% and the AGG was down -8.74%. A balanced benchmark portfolio of 60% S&P 500 and 40% AGG was -11.17% lower year-to-date.
Summary / Conclusion: There is no doubt that the range of outcomes for returns of various asset classes for retail investors has increased significantly in 2022, but with the Fed/FOMC eyeing two consecutive 50 basis point fed funds rate hikes on June 15, and then again in July, customers are sitting on more cash than usual. With the risk of recession increasing, clients were advised that they would likely see more positions that would outperform under economic duress, with these ETFs or funds or securities being added after each rate hike.
As for how long S&P 500 earnings will last, Apple was a good example today of what a downgrade can do to a stock in a tough band. EPS and earnings estimates are still seeing positive revisions and yet the stock is 16% off its all-time high of $180.
There are few places to hide in this market, the dollar (UUP) being one, gold is stable at 2% higher in 2022, then the money / money markets.
It has been difficult to diversify client accounts in 2022: at the start of 2022, client accounts had 10% to 12% in Oakmark International Fund or EMXC (emerging markets ex-China ETF) and both are negative since the beginning of the year, with Oakmark Int’l mainly thanks to Ukraine and its impact on Europe and EMXC thanks to China’s problems around other emerging markets.
Value funds are even down over the year. Bill Nygren at Oakmark is a great value investor, and as of 5/31/22 his fund was down -8.5% in 2022.
None of this is a recommendation or suggestion to buy or sell. Client holdings can change rapidly and past performance is not indicative of future results. Capital market conditions can change quickly. Do your own homework and assess your own risk appetite in the face of financial market volatility.
Personally, I don’t think this is a repeat of 2001 – 2002 or 2007 – 2008, but the following events would be disturbing together or separately:
1.) The 10-year Treasury yield is trading up to 3.16%, May 9 high yield print;
2.) Crude Oil is trading all the way to the $130-$131 high since early Mar 22;
3.) The S&P 500 is trading and closing below 3,800 on heavy volume.
Thanks for reading.
Editor’s note: The summary bullet points for this article were chosen by the Seeking Alpha editors.