Huge losses but reasons to be optimistic
The outlook for the world economy, which ultimately drives earnings for the big global companies in the S&P 500, has improved as the virus has come under control. As I have mentioned before, the economic data for the world as a whole has come in much better than expected. Economic surprise indices, which compare data with consensus expectations, are very strong, especially in the US. The Bloomberg index for outlooks for US company profits is also very strong – at a record high. In addition, a few months ago, when the recession was expected to be much worse than currently seems the case, Q2 earnings forecasts were much more dismal than they are now.
Bank earnings likely to reflect improving economic data
Over the next two weeks, two-thirds of S&P 500 companies will be reporting their profits, so we will have a very good estimate for the overall outcome by then. Banks lead the reporting season, and first we’ll hear from Citi Group, Wells Fargo, Bank of America and JP Morgan. Banks tend to be ahead of the pack when it comes to economic data because they estimate loan losses. So, we think their numbers will reflect the improving economic data and be less affected by the depth of the recession, which has been very deep. We will also be watching closely for their view of the outlook too. Many companies have suspended guidance given the uncertainties created by the virus. For those that do feel able to peer into the future, we expect them to be optimistic.
But what about the second waves?
The virus is still prevalent. But in China and most of developed Asia as well as Europe, the virus is in retreat. Localised clusters have been swiftly dealt with and there has been no re-imposing of lockdowns at the national level. Economic data in those countries that have already successfully exited early from their lockdowns, such as Denmark and Germany, has been strong, especially for retail sales, confounding expectations that consumers would be too cautious to start spending again. Many of the north east US states now look similar to Europe as far as the virus is concerned – New York reported zero deaths yesterday.
The US economic recovery will stall, but temporarily
The problem lies in the US ‘sun belt’ states, who exited their lockdowns too early. Indeed, the US as a whole is the only country to have suffered a genuine second wave. But even here, there are grounds for optimism. The media focuses on the crude figures for the daily number of new cases and the rise in fatalities. But the growth in the seven-day average of new cases has clearly peaked in the worst affected states.
The fact that the virus is more prevalent amongst the young in the sun belt states explains why the rate of hospitalisation and fatalities has been much lower relative to the number of cases than in the rest of the US as well as Europe. And after the usual lags, the decline in the growth in new cases will be followed by fewer deaths. Many of the sun belt governments have handled the virus badly, but their citizens, especially the more vulnerable, have taken preventative action anyway. There will be an effect on the economic data for the US, the recovery has stalled, but the impact will be temporary.
Nervous about earnings season, but optimistic overall
We could be on the brink of some good news on the Oxford vaccine. This could be a real game changer. They are months ahead of their rivals, having completed phase 1 and 2 trials. 8,000 people between the age of 18 and 55 have been given the vaccine, and they are expected to publish their results any day now, and regulators have agreed to phase 3 trials. If the vaccines does work, and if side effects are limited, we would be able to declare victory over the virus, and markets would rally in response.
So, while I’m nervous about earnings season, I remain optimistic overall.