Equities and the MacroSphere: January Pause or Something More?

We are re-branding our weekly Earnings Outlook article to reflect a focus on the macro implications of what is going on in equity markets and corporate earnings. We plan to discuss trade opportunities and sector views in regular Equity View articles.

Summary

• Coming off a great December and year, it is hardly surprising that equities took a break last week.
• Even with aggressive earnings outlooks, forward P/E ratios are well above pre-pandemic levels.
• Investors are clearly pricing in high expectations for earnings, rate cuts, and the economy in 2024.
• Q4 earnings season kicks off on Friday with reports from several major banks (including Citigroup, JP Morgan Chase, and Wells Fargo) and Delta Airlines. We look for insights about bank views on lower rates and any shifts in consumer demand for travel experiences.

Market Implications

• We look for equities to trade in a narrow range in coming weeks as investors weigh the evolving reality against their high expectations.

What We Learned Last Week

It is fair to say that 2024 opened with a whimper. The S&P 500 (SPX) shed 1.5%; the NASDAQ 100 (NDX) fell 3.1% and the small-cap Russell 2000 (RTY) dropped a sharp 3.75%.

Clearly, the focus was on booking gains on the winners in December. The SPX and NDX generated returns that ranked around the 80^th and 90^th percentile for December, while the RTY set an all-time December return high of 12.1% (Chart 1).

On top of that, the NDX set a new high in December and the SPX came within .03% of its January 2022 high.

Equity investors are coming into 2024 with extraordinarily high expectations (hopes?) for the trifecta of the economy, earnings, and rate cuts.

So, what about that pause?

Analysts project SPX earnings to grow 11.5% in 2024. NDX earnings are expected to soar 21.7%. And RTY is expected to post 12.7% growth. To put that in perspective, earnings for all three major indices have been essentially flat for the past 1.5 years. In other words, the pandemic-related disruptions are firmly in the rearview mirror.

Even with these aggressive earnings forecasts, equities are still pricy (Chart 3). Forward P/Es for 2024 are well above the 15-year period before the Covid-19 pandemic when rates were much lower than now. A miss on any of the three legs supporting these valuations will be painful.

The first reality check is earnings. These current projections were essentially formed earlier in 2023. In coming weeks, we will get Q4 earnings reports and many companies will offer 2024 outlooks. Based on this new information, analysts will revise their forecasts for 2024. Given that analysts have a pretty good track record for forecasting earnings, we expect equities will reprice to these new forecasts if they change materially and if earnings reports have not already done so.

The next reality check will be whether the Federal Reserve really goes through with rate cuts starting in March or soon afterwards. That will depend on the inflation and employment outlook.

All in all, we expect equities to trade in a narrow range in coming weeks as investors weigh their current expectations against evolving reality.

The Week Ahead

Q4 earnings season kicks off on Friday with reports from several major banks, including Bank of America (BAC), Citigroup (C), JP Morgan Chase (JPM), and Wells Fargo (WFC). We will be looking for discussion of their rate outlooks, and what that means for loan demand and the broader economy. Commercial real estate will also be a big concern.

Delta Airlines’ (DAL) outlook for passenger traffic will be a useful indicator of consumer confidence, and whether people have sated their need to “catch-up” travel plans that were put on hold during the pandemic.

Key earnings next week:

Monday

• Jefferies Financial (JEF)

Tuesday

• Albertsons Co. (ACI)

Friday

• Bank of America (BAC)
• Blackrock (BLK)
• Citigroup (C)
• Delta Airlines (DAL)
• JP Morgan Chase (JPM)
• United Healthcare Group (UNH)
• Well Fargo (WFC)

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.)