April 21st — First quarter earnings season kicked into high gear this week and investors were treated to a smorgasbord of blue-chip results across a range of industries. As they typically do, numbers for most companies have exceeded Wall Street expectations, but with almost 20 percent of the S&P 500 now having reported, the .75:1 ratio of “beats” is modestly better than where it has been over the last several quarters. Thus, a constructive backdrop to the early innings of earnings season is upon us. Because blue-chip equity valuations are elevated, companies need to deliver the earnings “goods” to justify current S&P 500 valuations of 18x estimated profit.
Bank on It
Regarding takeaways from earnings so far, a few key observations hold sway. For the most part, banks large and small are beginning to benefit from the higher short-term rates being engineered by the Fed. Within investment banking, while Goldman’s trading revenues came up short, a clear plurality of its brethren and smaller regionals have delivered what we were expecting — nothing alarming on the credit front, slower loan growth, and net interest margins that are beginning to perk up. With delivery of encouraging reports, the financial sector recouped some of its recent losses this week.
Dogs of the Dow
What also stood out to us were dubious milestones booked by two components of the Dow Jones Industrial Average – IBM and Verizon. IBM delivered another low-quality earnings beat, reporting flat earnings aided by a lower tax rate. More significantly, Big Blue has now reported twenty consecutive quarters of revenue declines as it struggles to transform itself from a seller of servers and mainframes to a company delivering cloud computing, artificial intelligence, and security solutions. Investors voted with their feet, putting a 5 percent dent in the stock.
Not to be outdone by IBM’s challenges, Verizon showed that it is succumbing to competitive pressures in wireless, reporting its first quarter of subscriber losses in over 10 years. This dynamic is manifesting itself on the top and bottom lines, with both missing estimates and declining from year-ago levels. In response to pressure from competitors like T-Mobile and Sprint, Verizon is now offering unlimited data plans for wireless subscribers. Investors were not impressed, driving the stock down by 3 percent.
Something More Sinister?
While investors focus on first quarter earnings, we can’t help but notice the rally in Treasuries. With 10-year yields this week dipping below 2.2 percent, rates have revisited levels not seen since last fall’s presidential election. Amid the recent softness in industrial commodities from copper to oil, is the bond market telling us that the global economy is set to disappoint? While this was a light week for economic data releases, U.S. industrial production numbers and existing home sales were encouraging, as were the preliminary PMI’s reported for countries around the world. The data support IMF projections of a global economy set to expand by 3 percent or more this year. We believe the most recent back-up in Treasury yields is more reflective of several factors du jour – 1) tensions on the Korean peninsula, 2) the U.S. administration exercising a more interventionist approach to Middle East trouble spots, and 3) contentious French elections slated to begin this weekend.
Our Takeaways from the Week
- For the most part, earnings season is off to an encouraging start
- Stocks remain range-bound amid earnings, French elections, and heightened geopolitical risk