With market expectations so low, the fact that US Q1 earnings have beaten them is really nothing to write home about. A bit like the weather in the UK topping a whopping 20 degrees for the first time this summer, it really is the very least we should expect.
As we near the end of this reporting season around three out of four US companies have beaten their earnings forecasts but earnings are still down year on year. It’s a similar story for sales growth with only around half of companies beating forecasts.
This quarter is a continuation of US earnings weakness and there have now been four consecutive quarters of year-on-year declines. This is the first time since the financial crisis in 2009, a rather worrying trend. The broad consensus is we now don’t expect earnings and revenue growth to turn positive until Q3 this year.
The fall in growth hasn’t been restricted to the energy and materials sector, which are sensitive to commodities price falls, but extends to seven of the 10 sectors. Key reasons cited by company management teams for these falls include the negative impact of the strong dollar and the fact that oil and gas prices are still lower than a year ago, despite the recent bounce. The forward guidance from companies for the second quarter does at least suggest a more positive outcome.
This falling corporate profitability makes the current price-to-forward earnings valuation of around 16 times look expensive. There needs to be a pick-up in earnings and revenue growth to justify this price but with a weak global economy and a Federal Reserve seemingly keen to continue raising interest rates this year, it is not clear where this boost to corporates will come from.
We felt those predicting a recession in the US were overly negative at the start of the year but we certainly don’t know expect a big bounce any time soon. As a result we remain very cautious about the corporate earnings outlook for the full year and US equities as a whole. We are maintaining our moderate underweight to the US for now while favouring large-cap, quality stocks with a domestic bias.
Solomon Nevins is an investment manager at Architas.