Stocks had a mixed close after confused investors tried to make heads or tails of the super-hot Producer Price Index. Fed members are not averse to hiking rates by a full percentage point – markets are factoring in a low probability of that.
It’s not what you do, it’s what you say that counts. I hinted at it in yesterday's note as we were just about to launch off the starting line in Q2 earnings season. I am sure that my regular readers will be thankful that we will have a diversion from the almost daily discussion around inflation, the Federal Reserve, rate hikes, and recession. Sure, those themes will still gird the discussion but, at least, the primary focus will be around corporate performance…and most importantly, the discussions that surround it. Before we dive in, for good measure, let’s briefly cover yesterday’s Producer Price Index / PPI release because, aside from its importance as an indicator, it is germane to corporate performance.
Economists weren’t expecting it, but I am sure that you, my cherished reader, were not surprised when the PPI for June came in hotter than expected. The release indicated that companies faced input prices that were higher by +11.3% from a year ago. Just a day earlier we got a similar surprise in the larger than expected Consumer Price Index. Though the CPI gets more fanfare, the PPI is a more favored release by economists and Wall Street veterans, because it can be thought of as a leading indicator. Remember that it is companies that set prices, and when their costs are going higher, those companies are forced to raise prices to maintain margins. In this case, the higher-than-expected number shows that companies are still under pressure to keep prices on the climb, which may portend more pain for us, as consumers. The current PPI series began in 2009, and you will see from the chart above that we are certainly at lofty levels compared to recent history. Noteworthy on this chart is the steep increase in annual growth throughout 2021, where it went from +0.8% to +10.0%. Since then, the annual rate continued to climb, but at a slower pace. So, while yesterday’s number was higher than expected, it is still in line with the moderating trend, which can mean that consumer price rises may be moderating in the future. Let’s hope so, but now we must talk about earnings releases, as promised.
Remember GDP? Of course, you do, if it shrinks for 2 consecutive quarters, we are technically in a recession. I am intentionally not getting too technical here. For illustration purposes, at a high level, GDP is comprised of consumer spending, business spending, and government spending. I like to talk a lot about consumer spending, because it makes up roughly 2/3 of GDP. Another roughly ~20% is spend by corporations in what is technically termed business investment. Rational companies increase and decrease their spending based on their assessments of economic conditions. Tough times ahead, cut back, good times ahead, pedal to metal. Sensible, right? Companies also change their spending based on availability of capital. Sure, companies build up reserves through the sale of goods (retained earnings), but larger, growth-oriented investments are typically financed by capital markets activity such as public equity offerings and through debt financing. I am sure that I don’t have to tell you that the current conditions in the equity markets make capital raising using stock…a bit challenging, if not completely impossible. On debt offerings, the challenge is rising interest rates. Companies that are in a position to raise capital through debt in any form will now pay more for that capital than they would have a year ago, thanks to the Fed. If indeed companies cut back on investments due to these challenging market factors, it will certainly influence GDP… 20% of it, at least. What that means, is that we need to listen closely to management commentary in the upcoming earnings season. Are companies concerned about future earnings based on higher consumer borrowing costs, higher prices, and low confidence? Will that cause them to slow down hiring and cut back on capital expenditures? If you listen really carefully, many capital-intensive companies will actually give forward guidance on not only earnings, but also capital expenditures. In every earnings season, I urge my readers to listen carefully to the earnings announcements and to look beyond the EPS beats and misses to get a real sense of what might happen with the company’s stock. This time, it is more critical yet, because those words will not only impact your stock portfolio, but perhaps, the US Economy as a whole. Listen carefully, stay focused.
WHAT’S SHAKIN’
UnitedHealth Group Inc (UNH) shares are higher by +1.71% in the premarket after it announced that it beat estimates on EPS and Revenues by +7.35% and +0.89% respectively. Additionally, the company raised its full-year earnings guidance. UNH is the largest managed healthcare company, and it is a member of the Dow Jones Industrial Average. The company is currently facing an antitrust lawsuit by the DOJ over its proposed acquisition of Change Healthcare Inc. (CHNG). Dividend yield: 1.31%. Potential average analyst projection upside: +13.6%.
Wells Fargo & Co (WFC) shares are off by -0.75% in the premarket after it announced that it missed estimates on EPS and Revenues by -7.79% and -2.91% respectively. While the company saw increases in its key lending margins due to higher interest rates, it expects portfolio impairments to increase going forward. That is a fancy way of saying that it expects more loan defaults in the future. Dividend yield: 2.59%. Potential average analyst projection upside: +35.5%.
Also, this morning: Bank of New York Mellon (BK) and US Bancorp (USB) both beat on EPS and Sales, while BlackRock (BLK) missed on both. Citigroup (C) will announce before the opening bell.
YESTERDAY’S MARKETS
Stocks had a mixed close as traders responded to the hot PPI release and ongoing threat of the strengthening US Dollar. The S&P500 slipped by -0.30%, the Dow Jones Industrial Average was lower by -0.46%, the Nasdaq Composite Index gained a scant +0.03%, and the Russell 2000 Index fell by -1.07%. Bonds slipped and 10-year Treasury Note yields increased by +2 basis points to 2.95%. Cryptos gained by +8.13% and Bitcoin advanced by +5.14%.
NXT UP