One of the biggest casualties of the tariff war has been the power of corporate profits to energize stocks. Now another earnings season is at hand, and not even that can keep investors from obsessing over trade.
It's the story of the market in 2018: U.S. companies are posting the best results in a decade, and the S&P 500 has derived almost no real-time benefit. More frustration played out in the second quarter, when the benchmark climbed a scant 2.9% even as profits increased seven times as fast.
"We spent five years in an environment when stock prices moved faster than the earnings growth, a trend that came to a halt," said Matt Maley, a strategist at Miller Tabak. "You can add to that a really strong headwind that became pronounced in the second quarter: trade. We need guidance to continue to be really good because so many other things aren't."
You hear it every season: Don't worry about about the past, pay attention to the future. In a market whose every effort to right itself has been squelched by a Donald J. Trump trade tweet, the advice has rarely been more relevant.
Going by the numbers, it will be another huge crop. S&P 500 companies are expected to say income rose 20% from a year ago, only slightly less than the January-March period, which saw the fastest growth in seven years. Add the standard beat margin and the final numbers could easily be just as good.https://www.investmentnews.com/wp-content/uploads/assets/graphics src="/wp-content/uploads2018/07/CI11623275.PNG"
The forecasts are where the drama lies. For months bulls have pinned their hopes on analyst projections that say S&P 500 profits will rise roughly 13% a year through 2020. Comments that reinforce those goals have the potential to shake stocks out of their funk. Anything that hurts the outlook could make a weak year worse.
"Companies' forward guidance is going to be more important than it's been in the past," said Dennis Debusschere, head of portfolio strategy at
Evercore ISI. "We have trade, we have a stronger dollar and a general feeling of nervousness around global growth. With earnings, people don't necessarily expect anything extraordinary. With trade, they have no idea."
The conflict is poised to enter a new phase on Friday when the U.S. is scheduled to slap tariffs on $34 billion of Chinese goods. Beijing has said additional tariffs on some U.S. goods will become effective "immediately" after.
Rising tension over trade and tariffs has already pushed companies from Daimler to Osram Licht to slash their guidance.
The S&P 500 has spent two months trading sideways as geopolitical tensions rose, a stronger dollar hurt companies' margins and slowing growth in emerging markets undermined the case for a synchronized global recovery.
The irony is, none of that has kept analysts from increasing their earnings estimates for the second quarter — something they normally don't do this close to reporting season. On average, Wall Street firms have lowered forecasts by around 3% in three months heading into the earnings season, according to
Bank of America data. It hasn't translated into equity prices.
"Is a deceleration in profit growth a reason to worry? No," BofA strategists including Savita Subramanian said in a note. "This quarter we will be paying close attention to management guidance and commentary for any deterioration in outlooks driven by uncertainty around growth or trade, which could halt the capex recovery and stall confidence."
(More: Small caps are losing their immunity to trade jitters)
