Earnings bonanza, but have we reached the peak for stock prices?
This week has been a bumper one for corporate earnings on both sides of the Atlantic. According to FactSet, of the 24% of companies on the S&P 500 that have reported results, 88% have reported a positive EPS surprise. At this stage of the Q2 earnings season, the blended earnings growth rate for the S&P 500 is a whopping 74.2%. If this level is maintained, then it would be the highest YoY earnings growth rate since Q4 2009. When Apple is reporting iPhone sales of 50% plus, and Google is reporting advertising revenue above 65%, the question is, will this last and are we at peak earnings, and the peak for global stock market performance?
Strong profit margins defy surging price pressures
These are weighty questions that need some unpacking. If we focus on the US, the threat of rising prices in Q2 spooked the stock market and triggered a sell off back in June, however this may have been premature. Given concerns in the market about rising inflation, which usually goes hand in hand with reduced net profit margins, the blended net profit margin for companies on the S&P 500 that have already reported results is currently 12.4%, which is above the 5-year average. If 12.4% is the actual net profit margin for the quarter, then it would be the second highest level since FactSet started reporting this metric in 2008. The gains in net profit margin are the highest for the financial sector and materials sector, the materials sector is reporting a net profit margin above 14% for Q2 21, which is higher than NPM for Q1 21, which was another stellar quarter for corporate earnings in the US.
Tech giants become the new line of defence for investors
On the individual company level, the tech giants smashed earnings estimates this week. Tech is one of the sectors that is benefitting the most from the economic recovery and the reflation trade, after it was one of the most resilient during the peak of last year’s pandemic. Tech is proving its credentials as one of the best defensive sectors for the current age. While there could be some ups and downs in the near term for some of the tech giants, overall, this is a sector that people want in their portfolio, which is why we remain bullish on the long-term outlook for big tech giants on the back of their enormous potential to generate strong revenue streams. To put this in context, the biggest tech companies generated combined profits of $5bn a week last quarter. The digital habits that we picked up during the pandemic are here to stay, which is why the Microsoft boss told listeners on Microsoft’s earnings call this week that 5% of global GDP is currently spent on tech, he expects this to double, and the doubling is already happening at an astonishing pace.
Do we need to worry about headwinds for big tech?
The future for big tech is not without headwinds, for example, greater regulatory oversight and political pressure, however, the prospect of these threats and how they will manifest themselves are difficult to imagine, and thus difficult for investors to add a negative premium to tech stock prices. There is also the problem of being a victim of your own success. For example, Facebook’s share price was down more than 4% on Thursday, even after reporting excellent results the night before. Facebook’s Q2 revenue had not been impacted by Apple’s limit on ad tracking. However, the problem for traders is that Facebook’s CFO was cautious about the outlook for future growth and said that revenue growth will fall in the future. While double digit growth is unlikely to be sustained, we still think that Facebook is in a strong position to continue to generate excellent earnings in the coming quarters, especially after reporting a 7% increase in the monthly active user base, which is positive for the future growth outlook. The prospect of a Facebook payment system and Facebook AI, means that the pipeline of potential new revenue streams for FB remain strong, regardless of what the CFO says. While we may get a pullback in the next few trading sessions, we expect FBs share price to recover quickly. Based on FactSet’s analysis so far, the majority of firms remain upbeat about Q3, and also materials and commodity companies should do well for as long as commodity prices are rising.
UK corporate earnings bode well for the FTSE 100
Elsewhere, in the UK, earnings highlights included Astra Zeneca, BT and Lloyds on Thursday. Astra Zeneca is considering charging a for-profit price for future Covid vaccines, like its rival Covid vaccine producers, this halted the recent slide in its share price since June. We shall have to see if recent acquisitions, combined with pricing changes to its Covid vaccine can give the biggest stock on the FTSE 100 by market cap, the recovery push that it needs. BT’s share price was down nearly 7% after reporting concerns in its international arm. Lloyds Banking Group delivered some upbeat earnings on the back of the growing economic recovery in the UK, however, its share price was down more than 1% on Thursday, as investors bought the rumour and sold the fact. Overall, results from Astra, Lloyds and Shell are all positive for the FTSE 100, and we expect these stocks to rebound and start to drive further gains for the UK index after it powered above 7,000 earlier this week. Overall, we would be cautious about global risk sentiment as we move into the end of the week. Treading fatigue may set in and indices could drift lower as we move to the end of the week, after the earnings bonanza, a Fed meeting and some unsettling corporate news from China. But, for now, the outlook for risk remains bright, especially with the Fed unlikely to shift policy gears in the near future.