Stableford Capital Insights

Are 2022 earnings turning negative?

Equites rebounded to close out May unchanged, rebounding from down 5.6% intra-month.[caption id="attachment_3857" align="aligncenter" width="865"]

Exhibit 1 Equities Rebound to Flat in May[/caption]

Where are we now?

Thus far in 2022 we have had two parts to the equity downturn. Initially, we had a decrease in valuations, driven by higher interest rates. During May, 10 Year U.S. Treasury yields fell slightly in May to 2.85%, from 2.94%, providing an opportunity for equities to rebound on the hopes of a more dovish Fed.[caption id="attachment_3856" align="aligncenter" width="864"]

Exhibit 2 Bond Yields Back off Slightly From 3%[/caption]Despite this recent bounce, equities remain in a second phase of the downturn where earnings expectations are starting to come down (as shown by the falling earnings revision breadth in Exhibit 3.) The key from here is whether earnings revisions breadth turns negative and leads to a further correction. While consumers remain strong, companies over-earned during the pandemic. Corporate margins remain high but are at from higher labor and commodity costs. Meanwhile, consumer consumption is moving away from goods toward services (see Target’s double guide-down within 3 weeks).[caption id="attachment_3853" align="aligncenter" width="940"]

Exhibit 3 Falling Earnings Revision Breadth; Will it Turn Negative?[/caption]Furthermore, energy and materials are skewing earnings revisions higher, masking some of the weakness. Ex these sectors, earnings are significantly weaker (Exhibit 4). This has already taken its toll in terms of relative performance among sectors year-to-date. We expect it will continue.[caption id="attachment_3854" align="aligncenter" width="940"]

Exhibit 4—Energy & Materials Skewing Net Income Higher[/caption]And finally, earnings revisions tend to weaken seasonally after May as companies report 2Q earnings.[caption id="attachment_3850" align="aligncenter" width="940"]

Exhibit 5 Earnings Revision Breadth Seasonality[/caption]Of course, nothing ever moves in a straight line and there are many negatives that could turn positive including China eliminating COVID lockdowns, peace in Ukraine and the Fed slowing its pace of rate hikes. Eventually, all these negatives that are weighing on the market will reverse or be fully priced in. One could argue that most are currently priced in, except the most important one—the Fed—which remains dependent on the pace of inflation.Please let us know how we may be of assistance in any of your financial planning needs.

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