Wall Street braces for slow­down in growth

The Globe and Mail Metro (Ontario Edition) - - Globe Investor - STAN CHOE

As U.S. earn­ings sea­son be­gins, an­a­lysts an­tic­i­pate tem­po­rary slump in prof­its largely ow­ing to this year’s dev­as­tat­ing weather events

Earn­ings re­port­ing sea­son is get­ting un­der way, and Wall Street is get­ting ready to be un­der­whelmed.

Profit growth likely slowed sharply in the sum­mer for U.S. com­pa­nies af­ter hur­ri­canes and other nat­u­ral dis­as­ters caused big dam­age. An­a­lysts are fore­cast­ing weaker earn­ings for sev­eral ar­eas of the mar­ket from a year ago, a sharp turn­around from ear­lier this year, when earn­ings were soar­ing by more than 10 per cent and help­ing to drive the stock mar­ket to record heights.

Thurs­day marked the un­of­fi­cial start to earn­ings re­port­ing sea­son for many in­vestors, when JPMor­gan Chase & Co. said its thirdquar­ter profit rose 7 per cent. For the over­all Stan­dard & Poor’s 500 in­dex, an­a­lysts are fore­cast­ing a rise of 3 per cent in earn­ings per share from a year ear­lier, down from nearly 11 per cent in the spring, ac­cord­ing to S&P Global Mar­ket In­tel­li­gence.

“In other words, earn­ings re­sults are solid – but not impressive,” said Scott Wren, se­nior global eq­uity strate­gist at Wells Fargo In­vest­ment In­sti­tute.

A slow­down in cor­po­rate earn­ings growth is par­tic­u­larly wor­ri­some to skep­tics of the stock mar­ket’s re­lent­less rise to record af­ter record this year. Over the long term, stock prices and cor­po­rate earn­ings tend to track each other. But the S&P 500 re­cently has been climb­ing faster than prof­its, which means stocks look more ex­pen­sive than usual.

Many an­a­lysts see the earn­ings slow­down as tem­po­rary, though. A big rea­son for the pause was likely the dev­as­ta­tion cre­ated by the sum­mer’s nat­u­ral dis­as­ters. Plus, in­vestor op­ti­mism is ris­ing that Wash­ing­ton may herd enough sup­port to cut tax rates, which would mean big­ger fu­ture prof­its.

Even with­out any move­ment on taxes, the global econ­omy fi­nally seems to be in sync and headed in the right di­rec­tion. The U.S. econ­omy has been show­ing stronger signs of growth, as have Europe and de­vel­op­ing economies stretch­ing from Latin Amer­ica to Asia. If the global growth con­tin­ues, it would give com­pa­nies some­thing in short sup­ply in re­cent years: stronger sales. The weaker U.S. dol­lar has also made the value of each euro of sales worth more than a year ago.

That’s why earn­ings growth for S&P 500 com­pa­nies is ex­pected to jump back to 11 per cent in the last three months of this year, ac­cord­ing to CFRA. That’s close to the 15.5-per-cent and 11-per-cent growth the in­dex was de­liv­er­ing in the first two quar­ters of the year.

The di­min­ished ex­pec­ta­tions for this re­port­ing sea­son also of­fer a po­ten­tial ben­e­fit for the mar­ket: Com­pa­nies can more eas­ily do bet­ter than ex­pected.

“We be­lieve that we’re set up for a nice move in the year-end here,” said Steve Chi­avarone, port­fo­lio man­ager at Fed­er­ated In­vestors. “We think earn­ings will come through and be strong and move mar­kets.”

Here are some of the trends to watch as com­pa­nies re­port their third-quar­ter re­sults in com­ing weeks. Tech­nol­ogy once again should be an area of strength

In a world where growth has been in short sup­ply, tech­nol­ogy has been an out­lier. Cus­tomers keep log­ging on, swip­ing their screens and hit­ting the “like” but­ton, which has helped the tech­nol­ogy in­dus­try reg­u­larly re­port big­ger earn­ings gains than the rest of the mar­ket.

Earn­ings for tech com­pa­nies in the S&P 500 likely rose 10 per cent in the third quar­ter from a year ear­lier, ac­cord­ing to an an­a­lyst sur­vey by S&P Global Mar­ket In­tel­li­gence. Of course, tech stocks have also been ris­ing more quickly than the rest of the mar­ket this year as a re­sult of their stronger growth. En­ergy com­pa­nies will have the most eye-pop­ping growth An­a­lysts are fore­cast­ing earn­ings to more than dou­ble for the en­ergy sec­tor, ris­ing 130 per cent, but that’s largely be­cause of how weak re­sults were a year ago and the price of oil is no longer plung­ing. Crude ended the third quar­ter at roughly $50 (U.S.) a bar­rel, slightly higher than it was a year ear­lier. More im­por­tant, it’s held rel­a­tively steady since sink­ing from $100 in the sum­mer of 2014 to $26 in early 2016.

An­a­lysts ex­pect Exxon Mo­bil to re­port a 33-per-cent jump in its third-quar­ter earn­ings per share, for ex­am­ple. But that’s only af­ter its earn­ings plunged in last year’s third quar­ter by 38 per cent. The rest of the mar­ket is more slug­gish

An­a­lysts are fore­cast­ing drops in earn­ings for raw-ma­te­rial pro­duc­ers, util­i­ties and com­pa­nies that sell lux­ury items and other nonessen­tials to con­sumers.

The big­gest drops should come from the fi­nan­cial sec­tor, par­tic­u­larly in­sur­ers. Dam­age from the sum­mer’s hur­ri­canes in the At­lantic, as well as from earth­quakes in Mex­ico, will mean big pay­outs for them. That’s why Wall Street ex­pects XL Group to re­port a loss of $3.50 a share. Less than two months ago, the fore­cast was for a profit of 67 cents a share.

For the fi­nan­cial sec­tor over all, an­a­lysts are fore­cast­ing a nearly 9-per-cent drop in third-quar­ter earn­ings.

Go­ing for­ward, though, an­a­lysts are more op­ti­mistic. In­ter­est rates should climb as the U.S. Fed­eral Re­serve con­tin­ues to raise short­term rates and pulls the plug on its bond-buy­ing stim­u­lus pro­gram. That would let in­sur­ers earn more in­ter­est on their bond in­vest­ments and would help banks make big­ger prof­its from lend­ing.

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