Earnings Outlook: Markets Dance as Music Plays On

Summary

• Equities are cautious but trying to stay optimistic – as last week’s rally on hopes the Fed will raise rates ‘only’ 50bp attests.
• More tech companies serving corporate America report surprisingly soft outlooks as companies become more concerned about recession risk.
• We may be approaching the crossroads where the lagged impacts of tighter monetary policy and higher rates grow apparent.
• Only 21 companies report this week, but they include heavyweight bellwethers Costco and Oracle Corp., and Toll Br with an update on housing.

What We Learned Last Week

Equities followed a by-now familiar pattern last week. They initially sold off on concerns about the impact of China’s Covid policy and ongoing protests on potential global growth. Then, clutching at straws, they rallied later in the week when Fed Chair Jerome Powell suggested the Fed may raise rates ‘only’ 50bp at its next meeting.

The second part of the message – that rates could remain elevated until inflation is clearly slowing – got lost as investors hit the buy button. The stronger-than-expected employment report initially sparked a selloff. But by the close on Friday, all eyes were focusing again on the optimistic scenario. As former CEO of CitiGroup Chuck Prince famously said shortly before the 2008 market crash, When the music’s playing, you’ve got to get up and dance.’

As we have noted previously, equities remain firmly in the trading range of the past six months, awaiting some catalyst to move decisively higher or lower.

Tech Weakness – Glass Half Empty?

Earnings also followed a familiar pattern – mostly solid beats but tempered by more cautious outlooks.

Several tech companies focused mostly on the corporate sector posted surprisingly soft outlooks. This subsector has largely been a success story in 2022. Even as consumer-oriented semiconductor and tech companies stumbled badly while the US economy fully reopened, companies continued to spend heavily to upgrade their technology infrastructure and cloud computing capabilities.

But in a one-two combination, software giants Salesforce (CRM) and SnowFlake (SNOW) warned of growing macro headwinds and slowing revenue growth. Several other smaller vendors echoed this message, including Marvell Technology (MRVL), NetApp (NTAP) and ZScalar (ZS).

Granted, several companies posted rising outlooks, including Hewlett Packard Enterprises (HPE), Synopsis (SNPS) and SmartSheet (SMAR). But the overall message is that tech companies may have to work harder to get at corporate pocketbooks in coming months.

Away from tech, Dollar General (DG), the discount retailer for lower income America, normally does well in an inflationary environment. However, it posted a surprisingly soft outlook. It further reported its customers are buying less and switching to private brands and discounted goods. Some of DG’s problems are self-inflicted, but it appears a large part of the US consumer base is already tapped out financially. Any rise in unemployment, if it comes, could be devastating for many Americans.

The Week Ahead

It will be another light week. Only 21 companies in our Russell 1000 universe report, but they include various consequential names – all the more so as we approach a crossroads where the Fed (and everyone else) waits to see how the lagged impacts of tighter monetary policy play out.

Tuesday

• When times get tougher, auto-parts retailer Autozone (AZO) often benefits from an influx of DIY consumers. That worked less well for competitor Advanced Auto Parts (AAP), but AZO will indicate if miss was company-specific or more systemic.
• Guidewire Software (GWRE), Mongodb Inc (MBD) and Sentinelone Inc (S) are smaller companies but should further inform us whether the outlook for the enterprise tech sector is weakening.
• Luxury homebuilder Toll Br (TOL) is at the center of the maelstrom wrought by higher rates. The question will be less about its volume of new contracts and more whether it is still profitable or suffering from unsold inventories.

Wednesday

• Gamestop (GME) would normally be outside our radar. But given its legacy as a pandemic meme stock, its earnings report will garner outsized attention.
• Campbell Soups (CPB) is one of the prima companies in name-brand foods – will it follow several other fellow brand-name consumer product companies and maintain its market share?
• Ollie’s Bargain (OLLI) is a DG competitor, serving lower-income people, but without groceries. It may find its discounted prices are still too high.
• RV manufacturer Thor Industries (THO) was enjoying a booming business last quarter as Americans took to the roads after two years of pandemic restrictions. Have rising rates dampened the mood – and sales?

Thursday

• Broadcom (AVCO), manufacturer of semiconductors and hardware/software for the enterprise tech market, is a key bellwether for this sector. Smaller competitor Ciena Corp (CIEN) will also attract interest.
• We can count on Costco (COST) for useful intelligence on consumer mood and what they are buying
• High-end apparel company performance has been mixed; Luluemon Arthletica (LULU) should do well if it has the right inventory mix on hand.

Friday

• If database giant Oracle Corp (ORCL) also reports a softer outlook for 2023, we will know corporate America really is tightening its belt.

Over a 30-year career as a sell side analyst, John covered the structured finance and credit markets before serving as a corporate market strategist. In recent years, he has moved into a global strategist role.

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)