This week in the podcast, we take a look at what we learned from week 1 of 2Q reporting season. The two big things you need to know: (1) 2Q21 reporting season has gotten off to a sour start, but it’s too early to gauge the overall tone. (2) COVID discussions haven’t disappeared from management commentary, which may contribute to additional pressure on the reflation trade in the near term.

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Now, let’s jump into some of the details.

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Starting with the sour start to reporting season.

• The headline stats are admittedly looking pretty good.

• Beat rates remain strong, with 92% beating the sell-side consensus on EPS and 92% beating the sell-side consensus on revenues including last week’s results and the early reporters.

• Additionally, the bottom-up S&P 500 EPS forecasts inched up another buck to $193.

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• But the stock price reactions speak for themselves, with just 33% of last week’s S&P 500 reporters seeing their share prices rises 1% or more in the one day trading session post results - much weaker than the early reporters where 56% moved up 1% or more.

• Last week’s results were dominated by Financials, making it tough to tell whether last week’s poor price action is a sign of things to come.

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o The Financials were already a bit wounded coming in, with the pace of upward EPS estimate revisions for the sector staging a significant retreat, something that tends to happen when 10 year Treasury yields are falling.

o It’s worth noting that while the percent of Financials beating consensus on EPS remains high, at 86%, is also on track to come in a little below 1Q’s level of 94%.

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• When we take a step back and analyze management commentary inclusive of both the early reporters and the results that came in last week, a few trends may be starting to emerge.

o First, outlook and demand commentary still skew positive. Last week, one thing that jumped out to us about the banks was that even though loan growth remains weak, general descriptions of the consumer are quite strong overall.

o Second, guidance trends are more nuanced. By our count, 13 raised while 5 reaffirmed, and 5 lowered or did not provide it. We continue to get the impression guidance increases are driven by robust 1st half results rather than increased optimism on the 2nd half.

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o Third, the tone around cash deployment, particularly buybacks and dividends, remains quite strong. That’s particularly true for the Financials that reported last week.

o Fourth, the margin commentary has been quite mixed. By our count, 19 companies have mentioned expansion while 15 have referred to flat/contracting margins. This is playing into the worst fears of the buy-side, as expectations for margin expectations had fallen sharply in our late June investor survey.

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Wrapping up with the commentary on COVID that we’ve seen in our review of earnings call transcripts.

• As we read through the earnings call transcripts from last week, one thing that jumped out to us was that COVID discussions are still happening in a rather significant way. We think this could add to pressure on the reflation trade near-term.

• A few of the comments that really stuck out to me were:

o An Industrial company highlighted how 9.5% of its workforce had contracted the virus over the past 5 quarters.

o A big investment bank expressed worry that the Delta variant, should it spread further, could lead to policy actions that could slow economic growth.

o A business services company described the Delta variant as a wildcard they would not try to predict.

o A large Consumer Staples company highlighted the challenges that COVID continues to cause globally, particularly in non-US markets.

o This all served as a reminder that while the COVID backdrop has improved dramatically, the situation does continue to inject a degree of uncertainty in the equity market outlook going forward and could lead to some unevenness in the recovery.

o This caused us to revisit the relationship between the performance of the reflation trade with COVID trends.

o We were surprised to see the extent to which the recent shifts in stock market leadership from Small to Large, Value to Growth, and Cyclical to Secular Growth have coincided with the latest deterioration in domestic COVID case trends. Large Caps, Growth, and Secular Growth oriented sectors all began to outperform Small Caps, Value, and Cyclical sectors again when the trend in domestic case counts began to deteriorate.

• We think the uptick in COVID cases in the US and emerging concerns about the Delta variant also deserve to be on that list of culprits given the commentary we’ve seen from corporates over the past week and the relationship to the key positioning trades within the US equity market that has emerged.

That’s all for now. Thanks for listening. And please reach out to your RBC representative with any questions.