Editorial Note: In today’s featured article, Matthew Carr shares his thoughts on first quarter earnings and the effect they will likely have on investors. He touched on this topic Monday in an interview on Marc Lichtenfeld’s Oxford Club Radio. To listen to the show and find out why Matthew says you have a “free ride for the next two quarters in the energy sector,” click here.
This week, we plow into first quarter earnings season. With reports coming from transportation stocks like CSX (NYSE: NYSE:CSX), JB Hunt Transport Services (NASDAQ:JBHT) and Delta Airlines (NYSE: NYSE:DAL).
Financials, such as JPMorgan (NYSE: NYSE:JPM), Wells Fargo (NYSE: NYSE:WFC), Bank of America (NYSE: BAC), PNC (NYSE: PNC), BlackRock (NYSE: BLK), Citigroup (NYSE: NYSE:C), American Express (NYSE: AXP) and Goldman Sachs (NYSE: NYSE:GS)...
Tech companies like Intel (Nasdaq: NASDAQ:INTC), SanDisk (Nasdaq: NASDAQ:SNDK) and Fairchild Semiconductor (NASDAQ:FCS).
Industrials like General Electric Company (NYSE:GE) and Honeywell International (NYSE:HON).
And all of that is just the tip of the iceberg.
There’s a lot to watch in the days ahead, all amidst some growing concerns.
You see, for the first time since 2009, earnings for the entire S&P 500 are projected to show a year-over-year decline. Particularly in the first and second quarters.
With a Fed rate hike looming, there’s brewing anxiety as to what this means for the market, as well as the overall health of the U.S. economy.
Wall Street estimates first quarter earnings will fall anywhere between 2% and 6%. But most of that decline will sit on the shoulders of the energy sector, which is expected to post an average tumble of 64% compared to the first quarter of 2014.
And that’s totally understandable.
From January through March, oil averaged just over $48 per barrel. During the first quarter of last year, the average price per barrel of oil was over $100.
That’s a 52% decrease in the average price.
And we can see the impact of this collapse in the earnings estimates for some of the industry’s majors...
Black Gold’s Black Eye
For Exxon Mobil (NYSE: NYSE:XOM), first quarter earnings per share (EPS) is projected to come in at $0.83 with revenue of $55.1 billion. This is a significant decline from the $2.10 EPS / $106.8 billion in revenue the company reported in the first quarter of 2014.
ConocoPhillips (NYSE: NYSE:COP) looks even worse; earnings are expected to fall 100%, from EPS of $1.81 to $0. And the Street estimates revenue will fall from $16.1 billion to $9.6 billion.
Chevron's (NYSE:CVX) revenue is projected to drop from $53.3 billion to $27.1 billion as EPS contracts from $2.36 to $0.72.
All of this might sound bad, but it isn’t an “end of the world” situation.
We’ve known for months that energy earnings were going to be bad. Anytime a sector sees its underlying commodity collapse, it’s not good. And the industry has been struggling with crude’s decline for the last two quarters.
But I actually think there’s potentially more upside here than downside...
For example, if we look at how shares of these three energy majors reacted to fourth quarter reports, there’s an interesting setup...
Thank Heaven for Lowered Expectations
Earnings for ConocoPhillips declined more than 100% in the fourth quarter, from $2 to a loss of $0.03. Yet shares gained slightly on the report, moving from $62.58 to $62.82. Today they are 5.9% above that level.
Shares of Exxon Mobil gained 2.47% on its fourth quarter report. It beat on EPS but missed slightly on revenue as production fell. Though shares are currently 4.49% below where they were at the start of February.
Chevron saw a slight decline on its fourth quarter report, slipping from $103 to $102.53. But now shares are 4.27% higher.
With expectations for major collapses across the board, shares of energy stocks shouldn’t plummet...
Just as long as they don’t forecast things are about to get worse for the sector.
As we head into the summer driving season, energy should stabilize. But we won’t really have an actual apples-to-apples, quarter-over-quarter comparison until the third and fourth quarters later this year.
The focus will be solely on whether the worst is over.
What the Bears Aren’t Saying About Earnings
Now, if we strip away the impact of the energy sector on S&P earnings, Wall Street actually expects an increase of 5%.
This is led by a projected increase of 10.9% for Financials... 9% growth in Healthcare... And a greater than 7% boost for Retail.
Plus, over the next year, Healthcare, Information Technology and Consumer Discretionary are expected to see the biggest increases in earnings growth.
In the first quarter, however, I do believe Consumer Discretionary could be ripe for disappointment.
Which will likely get the bears roaring.
The fact of the matter is, the first quarter isn’t particularly kind to Retailers to begin with. And I think the low price of oil could potentially hurt retail shares the most.
Lower crude prices mean lower prices at the pump, which analysts have been saying for months is a boon to the consumer. Like an additional “refund check.” So, for the past few quarters, it’s been projected that this newfound extra money will instantly shift from gasoline to retail.
But it doesn’t really work quite like that.
Saving a few extra dollars per week at the gas station is a slow build. It has to compound before becoming a sizable sum.
The expectations for retailers this quarter are very high... maybe a little too high.
A Sector Robbed by the Easter Bunny
Investors want to see sizable growth. And they could get it. But, once again, spending was hampered by a bad winter for much of the country (except for the South). And we have a stronger dollar impacting profitability in international markets.
We saw the March same-store sales numbers for a number of retailers last week, and it was largely mixed. But the other piece hanging over forward guidance for a lot of retailers is that the Easter holiday was earlier this year than usual.
That means most holiday shopping took place in March, not April.
For some retailers, like L Brands (NYSE: NYSE:LB), Cato (NYSE:CATO) and Gap (NYSE:GPS), it was advantageous for March sales figures. Unfortunately, it also means those sales won’t be part of second quarter year-over-year comparisons.
That will put more pressure on forward guidance to be strong enough that it can overcome the missing holiday.
In the days ahead, the markets will start getting some true direction as first quarter earnings really get underway. It’ll be volatile, but I don’t believe it will be as bad as most are predicting.
Low expectations could be your best friend right now as the U.S. economy continues to inch along.
Good investing.