Financial markets continued falling in April as investors were hit with lackluster company earnings and a surprising negative first-quarter US GDP report.
As you can see from the chart above, company earnings came into 2022 well above their historical trend. As of April 29, 2022, 276, S&P 500 members have reported earnings. These earnings so far are positive +3.9% from the same period last year on +13.4% higher revenues with 80.8% beating EPS estimates and 74.6% beating revenue estimates (Mian, 2022). However, investors were surprised by some big companies, namely Amazon and Netflix, missing earnings. Sheraz Mian of Zack’s Investment Research stated that Total Q1 earnings for the ‘Big 5 Tech’ companies (Apple, Microsoft, Google, FaceBook, and Amazon) are down -8.4% from the same period last year on +11.4% higher revenues (Mian, 2022). We believe investors should focus on earnings in relation to inflation. At first, higher prices bring higher profits (like in 2021); however, as inflation pressures rise, consumers demand starts to change, resulting in a shift in consumption. A slowdown in consumption could slow company profits and, therefore, earnings (like today).
While we are on the topic of inflation, we are getting some signs of inflation slowing. Specifically, we see a separation in the headline consumer price index vs. the core consumer price index. First, we must highlight the difference between the two. The consumer price index is an index made up of Food, Housing, Apparel, Transportation, Medical Care, Recreation, Education, and communication. We use this index to measure overall price changes because it’s a broad basket of goods and services that you and I would purchase on a daily basis—however, economists focus on Core CPI. Core CPI is the same index without food and Energy. Food and Energy can be volatile components, so economists like to remove them from the index. Our current situation is an excellent example of why we should separate core vs. headline. Specifically, the recent supply chain shock from the Russian invasion of Ukraine has continued to push headline CPI up to 8.00%, with food increasing +8.5% and Energy increasing +48.2%. However, if we remove the increases in food and Energy, Core CPI stagnates around 6.5% and looks to be slowing.
Not only are investors processing higher inflation and slowing company earnings, but they now must consider slowing economic growth. Our GDP is calculated by the sum of total spending in the economy.
Specifically, we add Consumption, Investments, Government Spending, and Net Exports together to get GDP. Last week, the U.S. Bureau of Economic Analysis reported that the U.S. Real GDP Growth decreased by 1.4% in Q1 2022. This contraction is the first quarterly decline in Real GDP growth since January 2020. According to the BEA, the primary drivers of this Real GDP decline were decreases in private inventory investment, exports, and federal government spending.
The decline in Q1 GDP was certainly a surprise, but as you can see from the chart above, Real GDP remains above trend despite this slowdown. The U.S. economy remains above trend because consumption and investments (excluding inventories) rose +1.8% and +1.3%, respectively, highlighting continued demand from consumers and firms. We believe this is a somewhat mixed report. However, it does highlight the decelerating growth of the economy, which continues to struggle with inflation, and supply chains.
With company earnings and Real GDP growth slowing we continue to expect 2022 to be a difficult year in financial markets. However, there is hope. Most of the economy’s issues stem from rising inflationary pressures. Therefore, if inflationary pressures begin to decline, we expect relief to come to consumers and financial markets in increased consumption and lower interest rates. We reiterate our cautionary stance from previous monthly market outlooks until we see further deterioration in the inflation rate.
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|Data Provided by Yahoo Finance||As of 4/29/2022|
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Mian, S. (2022). Making Sense of Tech Sector Earnings After a Big Week of Results. Zack’s Investment Research. Retrieved from Making Sense of Tech Sector Earnings After a Big Week of Results – April 29, 2022 – Zacks.com
Board of Governors of the Federal Reserve System (U.S.), Nonfinancial Corporate Business; Earnings Before Interest and Tax (FSIs), Transactions [BOGZ1FA106110115Q], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/BOGZ1FA106110115Q, May 2, 2022.
U.S. Bureau of Labor Statistics, Consumer Price Index for All Urban Consumers: All Items Less Food and Energy in U.S. City Average [CPILFESL], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/CPILFESL, May 2, 2022.
Bureau of Economic Analysis. First Quarter Real GDP Release. Retrieved from: Gross Domestic Product, First Quarter 2022 (Advance Estimate) | U.S. Bureau of Economic Analysis (BEA)
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