Has it all gone wrong for earnings season?

Stock markets are going through an existential crisis. What if the big AI trade does not pay off? Are earnings faltering in Europe? How long will Chinese demand remain weak? What are the risk factors associated with the US election now that Joe Biden has pulled out of the race? And when will the German manufacturing sector come out of its malaise? There are a huge number of uncertainties for traders right now, however, the prospect of weak corporate earnings across multiple sectors is threatening the stock market rally for this year. On Wednesday, US blue chip indices had their worst sell off for 2 years.

The growing list of big companies who have missed earnings estimates

The Nasdaq 100 was dragged lower by the computer and the industrial index and fell more than 3% on Wednesday, futures prices indicate another sell off for US stocks later today. The Russell 2000 fared better than the blue-chip indices, but it was still lower by more than 2%. The sell off is continuing in Europe, and the Eurostoxx 50 index is down more than 1% on Thursday after another set of weak earnings. The list of companies who have missed earnings estimates and disappointed the market is growing. LVMH, Kerring, Total Energie, ST Micro, BE Semiconductor, Google and Tesla are some of the big names that have disappointed the market with their earnings reports for the last quarter.

Astra Zeneca: When good, just isn’t good enough

There have been some positive earnings reports that are worth mentioning: Astra Zeneca reported stronger than expected earnings per share and raised its full year guidance on the back of strong demand for its cancer drugs. Revenues were also stronger than expected for Q2 at $12.94bn, vs. estimates of $12.56bn. This is usually exactly the kind of earnings report that the market likes: a strong beat on estimates with better-than-expected forward guidance, they also raised their dividend. However, in the current environment, earnings beats are not enough to boost the share price, and Astra Zeneca is falling this morning. Its stock is one of the weakest performers in the FTSE 100 and is down more than 2%. The reason for the sell-off seems to be higher than expected costs, which have contributed to lower net income margins, which have fallen to 17.2% from 19% in Q1. The market is scrutinizing earnings reports and punishing pockets of weakness.

Elsewhere, IBM reported solid earnings and its net income margin expanded to 14% from 9.8% in Q1, hence its stock price is expected to rise later today and buck the global trend. Likewise, Unilever also reported strong revenue growth and forecast a decent uplift for the rest of the year, which is being cheered by the UK market, its share price is up some 6% on Thursday and it is the best performer on the FTSE 100.

Patchy European earnings, as US stock markets hit by sell off in tech

Overall, in the Eurotoxx 600 index, earnings season has been patchy at best. Less than half of the sectors within the Eurostoxx 600 index have reported earnings growth so far this earnings season, with industrials and communications leading the way. This is understandably worrying for investors. In the US, earnings reports have been stronger than expected, and most sectors are reporting positive earnings and sales growth. However, concentration risk is coming to the fore. As mega tech stocks sell off this is dragging the main US stock indices lower. Nvidia is down more than 6% so far this week. We mentioned on Wednesday that the biggest factors triggering the selloff in US stocks is the end of the momentum trade and a distaste for growth companies. Until these factors stabilize it is hard to see how the US indices will stage a recovery.  

This is a bad time to own an index, and a good time to be a stock picker. Stock picking is notoriously difficult and a higher risk strategy than being a passive investor, however, the indices are under pressure due to the sell off in the AI trade. For the first time this year, the semiconductor index in the S&P 500 is not one of the top performing weekly sectors. The biggest decliners on the S&P 500 so far this week include a mix of big tech, AI semiconductor markers and consumer discretionary stocks such as Yum Brands and Dominoes Pizza. A faltering AI trade combined with a weak consumer is a toxic mix for stock market bulls.

China rate cut suggests growing concern at the state of the economy

Elsewhere, not even another interest rate cut by the People’s Bank of China is helping market sentiment. This is the second cut this week, which is a sign that the Chinese authorities are concerned about the state of the Chinese economy, which is more worrying for stock markets and for investors. The 1-year loan rate was cut by 20bps on Thursday, after the PBOC cut the short-term rate earlier this week. Taken together the two rate cuts this week amount to a moderate amount of easing, and they are unlikely to boost the Chinese economy and spur consumer spending. However, they highlight a new sense of urgency within the Chinese government to prop up the economy after a series of economic data misses in recent weeks.

Can US economic data save the day?

The GDP report for Q2 is released later today and the market is expecting a decent growth rate of 2%. A downside surprise could spur a deeper sell off, if the market starts worrying about the prospect of an economic slowdown in the US. Friday’s core PCE report for June is also a key economic data release to watch as it could cement a September rate cut.

UK debt markets the best safe haven in Europe

Overall, markets are in a risk-off mood today and the sell off continues. There is a flight to safety, with investors buying up US Treasury yields. The 2-year US Treasury yield is at its lowest level since February, and bond yields across Europe are falling, as investors rush to the ‘safety’ of government debt. Interestingly, in Europe, investors are favoring UK bonds over other European bonds, which is a sign that the Labour government’s message of fiscal credibility and fiscal prudence is resonating with investors.