Based on results so far, I believe investors will conclude in mid November that third quarter profits were fairly good and better than feared. The big exception, which will surprise no one, is the energy sector, which will weigh on overall profit results even as weak energy prices buoy real growth in the U.S. economy (see below for details). Consider the early results:
Industrial looks OK so far. Fastenal, which is a bellwether because it distributes all kinds of industrial fasteners throughout the U.S., had an in-line quarter, with revenue growing 14.3%. Alcoa is a decent indicator of global demand in aerospace, autos and packaging. The CEO (who admittedly is chronically bullish) provided a positive, detailed, segment-by-segment, assessment of global aluminum demand. He continues to expect 7% growth in 2014.
Transportation; Fed-Ex, trucker J.B. Hunt (a leading player in the inter-modal market) and railroad CSX all handily beat estimates. Because these firms haul all sorts of products, from coal to semiconductors, this is positive for GDP.
Big Banks (JPM, WFC, C) all met or beat estimates, despite headwinds from weak mortgage demand and declining net interest margin due to low rates. Loan growth was strong; WFC’s CEO said “we had strong broad-based loan growth with our core loan portfolio up almost $51 billion or 7%.” Strong IPO and M&A activity show that “animal spirits” have improved in corporate America, notwithstanding global growth jitters.
Consumer: Costco, PepsiCo, Kroger and Domino’s Pizza all posted solid quarters, but YUM was more mixed due to continued problems in China.
JNJ reported a solid quarter and raised 2014 guidance (with the top end of the range above current consensus), but the stock traded down due to strength in a product that will be hurt by a new offering from Gilead.
Tech: Intel reported another strong quarter paced by strength in PC’s and servers, though mobile remains unprofitable. Linear Tech slightly missed estimates.
It is way too early for strategists to estimate with confidence what third quarter S&P 500 EPS will actually be, but we know enough to conclude that earnings will be acceptable, though not great. From a stock market perspective, this basically means “more Goldilocks” – gradual profit growth of 5-7%, faster dividend growth of 10-12%, and a super-easy Fed.
There simply is no evidence here of an implosion in global demand. Europe is weak, but what else is new? Yes, France and Italy remain near recession, but the UK is fairly strong and Germany can support growth with much-needed infrastructure spending, if it wants to. China continues to grow. As for the U.S., which still accounts for two thirds of S&P 500 revenue, its economy is decidedly stronger now than over most of the last three years.
As for the impact of weak oil prices on profits, the story is complicated and usually mangled by the financial media and the experts they interview. Especially in the near term (i.e., Q3 and Q4 and probably next year), weak energy prices are a net negative for profits. They clobber the profits of the energy sector (about 10% of S&P earnings) and also hurt industrial suppliers of everything from steel piping to compressors to trucks. This weakness is only partly offset by the positive effects of weak energy prices, namely A) lower costs for energy users such as transports and chemicals, B) stronger revenue for retailers, restaurants, etc. as consumers spend less on fuel for their vehicles and dwellings.
On the other hand, investors will be more impressed by a positive EPS surprise at a Starbucks, Delta Airlines, or Macy’s than by weak results at Exxon or Chevron. Another positive: lower energy costs help to prolong the economic expansion by boosting consumer spending and reducing inflationary pressures, which gives the Fed more leeway to keep rates low.
Copyright Thomas Doerflinger 2014. All Rights Reserved.
