This week is the most important week this summer for Wall Street.
With the Fed decision and GDP on tap, earnings could actually end up determining direction. There are 175 S&P 500 (SP500) (SPY) companies set to report Q2 results, including 12 Dow (DJI) (DIA) components. Big names on this week’s calendar include McDonald’s (MCD), ExxonMobil (XOM), Ford (F) and the rest of the megacaps: Apple (AAPL), Amazon (AMZN), Microsoft (MSFT), Meta (META) and Alphabet (GOOG) (GOOGL).
To date, results have been below par. Of the 21% of S&P companies reporting, 68% have topped expectations. That’s below the five-year average of 77%, according to FactSet. The average beat of 3.6% is shy of the 8.8% average. The earnings growth rate of 4.8% is improving, but would be the lowest since Q4 2020. The 65% of companies beating on the top line is below the average of 69%. Still, the S&P is up 7% since the reporting period started and Citi says results are showing “resilience” that will push the broader market higher in the second half of the year.
It is important to dig into earnings on a sector level and take into account the concentration of profits in the big names. So far, positive surprises have been the norm in most sectors.
Investors also need to look more deeply at sector contributions to index earnings to better understand how recession risk may play into the earnings picture. In addition, it is critical to recognize concentration in the largest earnings contributors when assessing index earnings.
The top 20 stocks by earnings contribution are expected to determine 35% of Q2 index earnings, while the top 50 comprise 53% of index earnings. The early takeaway is that earnings surprises are running stronger for the top 100 earnings contributors than the ‘bottom 400’. And interestingly, per this data, the earnings concentration among the top 100 stocks is over twice that of the next 400.
MKM strategist Michael Darda says equities can avoid a second leg down this year, even if there is an impending earnings collapse. “In other words, we could have two bear markets (the first half of 2022 and again sometime in 2023 if there’s a recession next year) with a large unanticipated bull market in between,” Darda said. “There is also the possibility that the bear market already happened and even if there is a relatively mild recession this year or next year, equity markets will be supported by lower discount rates and the anticipation of an (eventual) recovery.”
As we all know, the Fed is willing to sacrifice growth to tame the inflation. This has already hurt the stock market. The question we need to answer right now is, how much lower will the stock market go? This week is likely to give an answer to this question. If earnings are strong, then now is the lowest point and investors should get ready to “buy the dip”; otherwise, only god knows how low the market will go.