This week in the podcast, we dig into the question of where we are in the earnings downgrade cycle.
ings you need to know: First,:
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• These sectors were seeing positive EPS and sales revisions last year, but they are now seeing mostly downward revisions.
• In percentage terms, some of the sharpest declines in EPS growth expectations recently have come for Energy and Financials.
• Taking a step back, we’ve been highlighting two key things in our discussion about how to think about the earnings downgrade cycle and stock market performance.
o First, the S&P 500 tends to bottom 3-6 months before downward earnings revisions cycles are done. Investors who have waited for final estimate cuts in the past have missed the market bottom.
o Second, in bad years for earnings, downgrades are usually mostly done up by March or April.
• In this context, we’ve been optimistic that the earnings headwind for the S&P 500 can be mostly resolved in the coming months, setting the stage for a recovery in stock market performance in the back half of the year. The fact that former leadership areas are finally participating in the downward revisions cycle supports the idea that we are later innings in the downward revision cycle even though numbers still need to come down more.
• Interestingly, Tech stands out as a sector that unlike Energy, Financials and Utilities, did take its lumps on earnings last year, at least in certain industries.
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o Like the broader market, Tech revisions turned positive in both periods well after the broader market bottomed in terms of performance.
o Like investors generally, Tech investors waiting around for the final cuts in their stocks missed the bottom in the S&P 500.
o It’s worth noting that there has been some divergence within Tech in terms of where we are in the downward revisions cycle. Our earnings revisions indicators hit historical lows in both Semis and Tech Hardware last year, but that hasn’t been the case in Software & IT Services which we think of as another domino that needs to fall.
Wrapping up with takeaway #2: We are starting to see performance leadership by Large Cap stocks with high International revenue exposure emerge as earnings revisions trends stabilize.
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• Meanwhile, Large Cap companies with entirely domestic revenue exposure have started to see the rate of upward EPS estimate revisions deteriorate. That comes after an extended period in which downward revisions were fairly modest and much more resilient than what we saw in the high international bucket.
• With this in mind, we think it’s fair to say that the high international bucket has been more derisked from an earnings perspective, and that the domestic cohort is yet another former leadership area that is finally taking its lumps.
erms of price including early:
• While there are sector explanations for much of this, we think this also reflects a theme we picked up on in our December client meetings in Europe – the idea that the economic backdrop in Europe has been less bad than feared and excitement over China’s reopening, which has ignited interest in non-US exposure, while economic uncertainty in the US is rising.
That’s all for now. Thanks for listening. And please reach out to your RBC representative with any questions.
