Use the force. Stocks dropped on Friday as weak earnings soured investor enthusiasm. Manufacturing continues to struggle and the war of words between the US and China is heating up again.
N O T E W O R T H Y
Don’t stop believing. Last week was proof that earnings still count for something. Right now we are at the peak of earnings season with a good 140 S&P500 companies expected to announce their first quarter results in the week ahead. The handwriting has been on the wall, so to speak, but investors seem to have been ignoring it, as evidenced by April's equity market performance. Sure, there is plenty to be hopeful for with the virus curve appearing to flatten out in some hard-hit places and the therapy pipeline filling up, but the economic reality of the virus is just beginning to come into view. One has to try really hard to ignore the real economic impacts of the pandemic. Not a numbers person? Just look at the empty parking lots at restaurants, malls, and shopping centers. Whether you care to look at the numbers or not, they are here, and they are not pretty either. Companies employ various techniques to soften the rough edges of their earnings releases. Even in good times, bad things happen. Weak quarters, unexpected expenses, supply chain issues, management shakeups, etc. all happen in the normal course of business. While companies are required to disclose all material information, just how prominently that information is displayed is a bit of a grey area. I may have written once or twice about the importance of footnotes. When reading company filings, most good analysts start with the footnotes because that is where companies typically hide not-so-flattering facts about the health of their businesses. Companies can also do many things to give the appearance that earnings are growing. One of the most frequently used techniques over the past several years has been stock buybacks. By lowering the number of outstanding shares through a stock buyback, a company's EPS, or earnings per share, goes up even if the more important factor of the equation: earnings, stays the same. Ah, and there are dividends. Every investor likes dividends, and rightly so. Companies love to raise dividends, especially when announcing bad quarters. This usually softens the blow when releasing a weaker than expected result. "How can they afford these things?” you wonder. Dividends and stock buybacks are meant to return excess cash to shareholders as a form of payback. More recently, however, some companies have used cash afforded to them by new tax laws aimed at spurring investment, or worse yet, by borrowing money in the credit markets at record low interest rates. These unprecedented times have unfortunately thrown company performance into sharp focus. Sales are going down and, in some cases, expenses are going up which amounts to lower earnings. The drops are sharp and not easily smoothed by accounting nuances and creative writing. Cash has become king once again as companies struggle to keep workers employed and the lights on. Cash which might have been used to pay dividends and make stock buyback in the past few years is being used to keep companies alive, appropriately. That is why, more recently, a companies’ announcement of a dividend cut might have been met by a rise in stock price. Things are certainly different these days and diligence in investing has become ever more critical. There has been a noticeable surge in corporate borrowing from banks, the government, and the public with record amounts of bonds being issued. Let’s hope that cash proceeds from all the borrowing will be used wisely by companies to keep workers employed and to continue capital investment through this soft patch. Investors have lowered their sales expectations providing companies a unique opportunity to invest in the future.
THE MARKETS
Stocks dropped sharply on Friday on weaker than expected earnings. The S&P500 sold off by -2.81%, the Dow Jones Industrials fell by -2.55%, the Russell 2000 traded off by -3.83%, and the NASDAQ Composite Index gave up -3.2%. Bonds slipped and 10-year treasury yields went down by -2 basis points to 0.61%. Crude oil continued its comeback, adding +4.99% to $19.78 per barrel.
NXT UP
- Factory Orders (March) are expected to have dropped by 09.5% compared to flat growth in the prior month.
- March’s final Durable Goods Orders may have dropped by -14.4% in line with prior estimates.
- This morning Starwood Property Trust and Sempra Energy beat estimates while Tyson Foods missed. After the bell, we will hear from Mosaic, Shake Shack, Tenet Healthcare, Skyworks, AIG, Wyndham Hotels, and Mohawk Industries.
- The week ahead will feature a number of important economic numbers including ADP New Employment, weekly Initial Jobless Claims, and the Monthly Employment Situation from the Bureau of Labor Statistics. Please refer to the attached economic and earnings release calendars for details.