Earnings Take a Back Seat to Policy
Equities Take A Breather in Quiet Week
Equity markets were flat last week following four weeks of gains. Amid a limited week of economic data, investors appeared to take a pause as they sifted through corporate earnings results. For the week, the S&P 500 fell 2 bps while the Dow Jones Industrial Average climbed 10 bps. The BarCap Agg index fell 19 bps as the yield on the 10-year Treasury increased from 2.50% to 2.58% over the week.
Although it was a quiet week on the economic front, there were a few notable indicators to digest.
On Monday, the National Association of Realtors reported that existing home sales slipped in June to 5.08 million. This was below expectations for a rate of 5.27 million, and down from 5.14 million the prior month. The recent uptick in mortgage rates is believed to be a slight inhibitor to near-term momentum, but the longer-term improvement in the housing sector remains intact.
Year-over-year, existing home sales are 15.2% higher, and housing prices are also up double-digits for the seventh straight month. The proportion of distressed transactions continues to fall, with just 15% of sales linked to short sales or foreclosures in June. This measure stood at 18% the month prior and 26% in June 2012.
New home sales displayed greater strength when released on Wednesday. The Census Bureau reported that new home sales improved to a seasonally adjusted annual rate of 497,000 in June, which is the highest level of the economic recovery. June’s gain was notable as May was revised down by 17,000 to 459,000.
Inventory of new homes is very low, at just 3.9 months. This phenomenon has held back home sales in recent months for both new and existing, but could lead to more robust growth in home building in the months ahead. While prices slipped modestly for new homes in the month, year-over-year the sector is sharply higher.
This mirrors continued expansion in the FHFA House Price index. In May, the series rose by 0.7%, which is the sixteenth straight increase. Year-over-year, the House Price Index is 7.3% higher. It is important to remember that the FHFA index tracks agency-owned properties, so they tend to be of higher quality than other measures.
On the manufacturing side of things, the Census Bureau reported that durable goods expanded 4.2% in June. This was well above consensus estimates, but reflective of transportation-related volatility in the series. Specifically, aircraft orders lifted the headline report and the transportation component, which increased 12.8%. The core measure, which strips out this volatility component, actually disappointed economists with a flat reading during the month. The manufacturing sector remains a bit of an enigma with mixed readings across a wide number of indicators.
Earnings Take A Back Seat To Policy
In the midst of the latest earnings season, the S&P continues to post impressive results, suggesting better than expected corporate results. In aggregate, the supposition is correct, with the caveat that sector results paint a picture of divergent earnings.
Since the start of earnings season, roughly 73% of S&P 500 companies reported earnings above the average estimates, while 54% reported similar revenue outperformance, according to FactSet.
By sector, the results have been mixed. On the positive side, Industrial, Tech, and Financials are outperforming the S&P by a wide margin, but at the other end of the spectrum, 100% of utilities in
the S&P 500 provided disappointing earnings. Weakness was also evident in consumer staples and energy.
Perhaps the most surprising statistic this quarter is the level of surprises. The average
company is reporting earnings 3.2% above estimates, the second lowest level of the past four years. The average for the past four years is 7.0%.
It is also important to point out that analysts have consistently revised second quarter earnings lower since the start of the year. There was a slight pickup recently, but that change was marginal.
David Kostin, strategist at Goldman Sachs, noted that “profit results outside the Financials sector have been lackluster with 2Q earnings per share falling 1% on a year/year basis.” Be that as it may, Kostin also pointed out that “recent client inquires have not been focused on corporate results. Instead, investors have sought perspective on monetary and fiscal policy risks to the equity market and the proverbial ‘great rotation’ from bonds to stocks.”
That focus on macro at the expense of micro is particularly evident in the correlations of global equity markets. After trending lower early in the year, correlations across equity markets are once again rising, an indicator of the relative importance of Japan, China, and the Federal Reserve.
Source: Goldman Sachs
To this point, the earnings picture is a mixed one, but provides an important glimpse at an otherwise slow growth economic environment. Additional insight will come from a mix of blue chip companies reporting this week, including Exxon Mobil, Procter & Gamble, and Kraft.
The Week Ahead
Investors can look forward to a much busier economic calendar this week. The first estimate of second quarter GDP is on tap, as well as the Bureau of Labor Statistics’ Employment Situation report on Friday. Economists expect GDP growth of 1.1% and payroll expansion of 175,000.
Other important data including the Case-Shiller Home Price Index and the ISM Manufacturing Index are also on tap. On Friday, the Bureau of Economic Analysis releases personal spending data for June.
Amid this flurry of economic reports, the Federal Open Market Committee (FOMC) meets on Wednesday. While no major change in policy is expected, additional color around the Fed’s so-called “tapering” of quantitative easing could introduce another bout of volatility into financial markets.
The European Central Bank and Bank of England also meet this week, but again, no major changes in policy are expected. Both the ECB and BoE currently have interest rates at 0.5%, while the BoE maintains an asset purchasing program of £375 billion.
Other central banks meeting this week include Israel, India, Czech Republic, and Egypt.
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