US earn­ings sea­son should kick the bears into touch

De­spite the geopo­lit­i­cal con­cerns, the bulls have many rea­sons to be cheer­ful over the next few months in the wake of Trump’s tax cuts

The Daily Telegraph - Business - - Business Comment - Garry White Garry White is chief in­vest­ment commentator at wealth man­ager Charles Stan­ley

Later to­day, Citibank, JP Mor­gan Chase and Wells Fargo will kick off one of the most im­por­tant US earn­ings sea­sons for quite some time. Fol­low­ing a pe­riod of mar­ket weak­ness, with neg­a­tive geopo­lit­i­cal news driv­ing mar­kets, cor­po­rate re­ports over the next few weeks could keep in­vestors op­ti­mistic. If cur­rent ex­pec­ta­tions are met, bulls are likely to breathe a sigh of relief.

Since the fi­nan­cial cri­sis, mar­kets have largely been driven by un­con­ven­tional po­lices im­ple­mented by cen­tral banks – but the sta­bilis­ers are now be­ing re­moved. This means of­fi­cial-sec­tor poli­cies are be­com­ing less help­ful for equity mar­kets.

Af­ter the first quar­ter saw what the City refers to as “neg­a­tive re­turns” (that’s losses to you and I), bulls have been des­per­ate for some pos­i­tive news so they can get back in charge. Be­cause there has been a dearth of earn­ings news over the last month, in­vestors have been fo­cus­ing on geopo­lit­i­cal “big-pic­ture” is­sues, such as the Face­book data scan­dal, trade-war rhetoric and the wors­en­ing sit­u­a­tion in Syria. How­ever, good news may be ahead. Boosted by Don­ald Trump’s tax cuts, an­a­lysts are now ex­pect­ing US earn­ings growth of more than 18pc year on year in the sec­ond quar­ter.

The banks re­port­ing later to­day will help to set the earn­ing-sea­son tone. The most im­por­tant thing for this sec­tor is the level and di­rec­tion of in­ter­est rates, as this di­rectly im­pacts prof­itabil­ity through rates charged on loans. The re­cent in­creases in rates, cou­pled with a slight uptick in US com­mer­cial loans, should help on the earn­ings front. The banks also have a weak quar­ter of com­par­i­son fig­ures from the start of last year, when there was rel­a­tively lit­tle mar­ket volatil­ity and this was re­flected in in­vest­ment bank­ing re­sults. In­vestors will be hope­ful this volatil­ity has helped boost the bot­tom line, although it is likely to be lumpy.

Banks should also have ben­e­fited from the re­cent uptick in volatil­ity and fee-gen­er­at­ing merger, and ac­qui­si­tion (M&A) ac­tiv­ity has been ris­ing too. Global M&A had its strong­est start to a year ever in 2018, with firstquar­ter deals hit­ting

$1.2 tril­lion in value, as US tax re­form and faster eco­nomic growth in Europe un­leashed a wave of deals. In the UK we have seen this un­fold with firm bids or po­ten­tial of­fers for a range of com­pa­nies in­clud­ing GKN, Sky, Ham­mer­son, UBM, Shire, First Group and elec­tronic trad­ing plat­form Nex. There is no rea­son that this mar­ket-sup­port­ive trend of com­pa­nies pur­su­ing trans­for­ma­tive merg­ers can­not con­tinue.

It’s hard to see equity mar­kets con­tin­u­ing to un­der­per­form as earn­ings growth in­creases and global growth syn­chro­nises and ac­cel­er­ates. Two quar­ters of back-to-back neg­a­tive re­turns when earn­ings are pos­i­tive is usu­ally an in­di­ca­tor that a re­ces­sion is im­mi­nent, but this does not ap­pear to be on the cards in the near term. In­fla­tion in de­vel­oped mar­kets re­mains low and there are no signs of over­heat­ing in the real econ­omy or in fi­nan­cial mar­kets. New Fed­eral Re­serve chair­man Jerome Pow­ell ap­pears un­likely to want to up­set the ap­ple­cart in his first year in the hot seat, so he is likely to err on the cau­tious side of tight­en­ing pol­icy. This is es­pe­cially the case as pres­i­dent Trump has a lot of his po­lit­i­cal cap­i­tal in­vested in mar­kets, as he has claimed re­spon­si­bil­ity for the re­cent bull run in equities on nu­mer­ous oc­ca­sions. We have also seen some bet­ter data, with global growth mov­ing in synch and ac­cel­er­at­ing out of the range of the last few years. The US jobs mar­ket re­mains ro­bust and con­sumer con­fi­dence across the At­lantic hit a 17-year high in March. House price growth is also strong.

Of course there are threats, with bears point­ing to many of the is­sues that have been at the fore­front of in­vestors’ minds over the last few weeks in the ab­sence of any earn­ings data. Po­ten­tial mil­i­tary ac­tion in Syria has spooked some – send­ing oil prices to a three-year high. But any ac­tion is likely to be swift and tar­geted. It is likely that the ac­tion won’t im­pact mar­kets for long – and it is not in the in­ter­ests of Vladimir Putin or Trump to es­ca­late sig­nif­i­cantly.

The po­ten­tial trade war be­tween the US and China is also a ma­jor threat – but these fears are po­ten­tially over­cooked as well. Ear­lier this week, Chi­nese pre­mier Xi Jin­ping said he will in­crease mar­ket ac­cess for for­eign in­vestors, some­thing that has been a point of con­tention for the cur­rent ad­min­is­tra­tion. In­deed, plans for a link be­tween stock ex­changes in Shang­hai and Lon­don were an­nounced on Wed­nes­day, which was a pos­i­tive sign that Bei­jing is open­ing its doors to more for­eign in­vest­ment. It is likely that con­ces­sions will be made over the next few months so that both sides can claim a vic­tory. Repub­li­cans are also likely to be wary of any mar­ket up­set­ting moves ahead of the midterm elec­tions in Novem­ber.

As the fo­cus turns from geopo­lit­i­cal con­cerns to earn­ings, it’s now time for cor­po­rate Amer­ica to start de­liv­er­ing. It is true that ex­pec­ta­tions re­main quite high, and tax cuts are likely to be re­spon­si­ble for around a third of the earn­ings up­lift – but this is likely to be the best US quar­terly earn­ings sea­son in seven years. This means there are def­i­nitely rea­sons to be op­ti­mistic ahead of the bl­iz­zard of num­bers – and this will hope­fully be re­flected in equity mar­kets.

‘Global M&A had its strong­est start to a year ever, with $1.2 tril­lion deals’

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