At this point, relief has lost its power to motivate Wall Street. We know that the Fed’s current trajectory isn’t going to immediately crash the economy, but we just haven’t seen a lot of reasons to cheer.
Luckily earnings season starts in a few weeks. And while this quarterly cycle can be a catastrophe if too many companies miss their marks, I just don’t see that happening.
If anything, the right numbers will finally give us an incentive to hold the stocks we have and even expand our positions before the underlying companies grow beyond our reach.
We’ll know on July 13 when the big banks report. The clock is ticking. Make sure you’re in position to capture any big upside surprise . . . but keep an eye on the exit as well.
The Biggest Cycle In Years
For all practical purposes, earnings stopped mattering when the pandemic initially crashed fundamental analysis across the market and then the Fed’s response rendered year-to-year comparisons irrelevant.
Unless you look two years backward and forward, all growth trends became meaningless noise in the COVID era. We aren’t comparing apples and oranges. We’re comparing spaceships with dinosaurs.
And until that noise shook out of the market, stocks and sectors moved in uncanny unison. Buzz and adrenaline took over. When greed was in control, even obviously distressed names soared.
Once fear ran the show, it didn’t make much difference whether any given quarterly report was good, bad or indifferent. Strong showings got sold. Weak ones got sold too.
But this quarter, earnings might actually matter. I hope so. In that scenario, the bulls might get the upper hand.
After all, the market as a whole looks fairly valued by any stretch of the imagination here at under 16X projected earnings. As long as those projections hold up, there’s no compelling reason to sell . . . even in a rising-rate world.
Never forget that the Fed doesn’t want to set rates at an artificially high level forever. Their goal is to push the yield curve only to the point where inflation gets back under control. Right now, they think that means about 3-4% overnight lending rates over the next few years.
Despite what you’ve enjoyed in the post-2008 era, that’s not unusually high by historical standards. That’s “average.” And 16X earnings is equally “average” under those rate conditions.
To say it again, Wall Street has already priced that scenario into stock prices. If anything, fear has gotten a little exaggerated and stocks look cheap.
All we need is for the earnings side of the calculation to live up to expectations.
Fear Hits A Limit Too
We’ve seen long-term interest rates go down in the last few weeks, which is a signal that the bears are the ones who are letting their rhetoric run away with them.
Bond yields have a clear limit. If they get too high, money will flow back into the Treasury market to lock them in . . . and yields will drop in response, taking pressure off stock valuations and doing some of the Fed’s work for it.
But while this gives Wall Street a little more room to breathe, we need more before we see the market do more than drift. Investors need to be actively persuaded that the immediate future looks better than the scenarios we’ve all concocted to justify buying stocks at a given price.
We need a constructive catalyst. Historically, earnings season provided that tangible proof that corporate operations are throwing off more cash than analyst models projected.
CEOs that can confidently forecast growth are usually rewarded. Those who need to confess that things aren’t working out as well as hoped see their stocks decline.
Admittedly, forecasts have come down over the last few months. Nobody is blind to the economic pressure radiating from inflation on one side and the Fed on the other.
However, all the negativity now adds up to 4% year-over-year earnings growth this quarter for the market as a whole. That’s not a crash. It’s not an apocalyptic scenario. It’s actually pretty good.
And forecasts for the back half of the year are actually coming up to reflect the way corporate leadership is responding to the pressure. CEOs are finding new supply chains and new ideas. They’re learning.
I won’t be surprised to see guidance support roughly 10% earnings growth for the remainder of 2022. As long as stocks aren’t obscenely overbought, that’s usually a high enough expansion rate to justify buying.
Technically it’s a rally number. If the S&P 500 can hit that mark, it looks extremely attractive here at an “average” multiple.
Meanwhile, the Fed remains the staunch friend of all the banks, which are the first to report. Last quarter was a writeoff on that front. Forget the headline numbers.
All we need from the banks is confidence and some insight into whether consumers are holding up under the economic pain. I think they are. The banks have already told us as much.
I wouldn’t buy the big banks here, but I wouldn’t sell them either. Pivot to energy now. That’s literally where the heat is.