The Strategist

Early insights from the Q2 reporting season

Prior to the start of the second quarter corporate reporting season, we published an issue of The Strategist on expectations for the S&P 500 (The Strategist 15 July 2024). We highlighted the following factors: 1) the second-quarter reporting season is one of the most exciting of the year, 2) a broad-based earnings recovery is expected, and 3) options markets are pricing in above-average market volatility for select equity giants on the trading day following earnings - the highest in 16 years. To date, 206 companies from the S&P 500 and around 185 from the Stoxx Europe 600 have reported their second quarter results. This allows us to summarise the first key findings of the reporting season so far.

Date
Author
Georg Ruzicka, Head Equity Research LGT Private Banking
Reading time
10 minutes

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S&P 500 manages to surprise positively overall

Of the companies that have already published their Q2 results, a total of 59% were able to surprise positively in terms of sales growth, 73% in terms of earnings per share growth and 51% in both disciplines. The positive surprises have thus improved slightly compared to the previous week and are also stronger than in the previous quarter. Comprehensive analyses of all company transcripts indicate that confidence in the corporate sector remains robust, albeit moderately lower than last quarter. Overall, companies were able to exceed expectations for sales growth by just under 2% and those for earnings growth by around 4-5%. The price reactions to the corporate figures appear to have been received somewhat more graciously by investors than expected, as the recent decline in US inflation combined with expectations of first interest rate cuts, in addition to the fundamental earnings growth, have been somewhat milder. Clear misses, however, have been punished harshly.

Rough start in Europe

In Europe, the start to the earnings season has been much more sluggish so far. Compared to the US, a visibly smaller number of companies have been able to surprise positively. In addition, reactions to the Q2 reports have been much sharper on average. Positive surprises are rewarded with an average performance of +2%, while a failure to meet expectations is penalised with an average performance of -5%. This could be due to any market concerns about economic growth after the latest purchasing managers' indices for the manufacturing sector in Germany and the eurozone showed signs of weakness.

Light and shade at sector level

Overall, it seems premature to draw any final conclusions. However, there are already interesting anomalies in two sectors. Firstly, in the discretionary consumption sector: Almost across the board, the sector has clearly missed expectations so far, and some companies have had to lower their outlooks. This is most noticeable in the automotive industry and among luxury goods companies. The common denominator is often a weaker-than-expected Chinese consumption, but American consumers also appear to be becoming somewhat more spending-conscious and selective overall. The consumer discretionary sector is one of the three weakest sectors over a month, and we maintain an "Underweight" position in this sector. On the other side of the scale, the pharmaceutical sector stands out positively. Various pharma companies have been able to impress with good quarterly figures and we have also seen some increases in full-year guidance in this sector. Over the past month, the healthcare sector has been able to outperform the market as a whole and has even led the sector ranking over the past five trading days. We remain "Overweight" in the healthcare sector.

Worries about excessive investments?

A Q2 earnings report by one of the technology giants, which is categorised as one of the so called "magnificent seven", caught our eye. Top management currently classifies investing too little as a much higher risk than investing too much. In the last quarter, the leading technology giants largely raised their forecasts for capital expenditure and have thus entered a multi-year investment cycle for Artificial Intelligence (AI). Overall, the investment plans for the largest technology giants for the current year 2024 are estimated at USD 200 billion, an increase of around 34% compared to the previous year. The first concerns are now arising as to how quickly these investments can be monetised, i.e. converted into sales and profit growth. The answer to this is still pending. However, it is always the case that investments are required first to develop new products respectively applications later. Thanks to the healthy cash flows in the sector, the technology giants can generally afford to make higher investments without having to take on debt. However, it remains to be seen who will ultimately successfully monetise on AI. Our current rating in the technology sector, which has a sporty valuation, is "Neutral".

Current expectations

In the current reporting week, four more companies from the "magnificent seven" will be revealing their results and thoughts on the course of business and the outlook. We continue to expect healthy earnings growth for this segment overall in the region of 30%, even if this represents a sequential slowdown compared to the previous quarter's 50%. On the other hand, we continue to expect a broadening of underlying earnings growth in the market, i.e. that the S&P 493 will achieve a turnaround and generate positive earnings growth in the order of 5%. Among other things, it is this broadening of earnings growth in the S&P 500 that should also contribute to a rotation within the sectors in the market. Rotations are not a bad thing per se; in fact, they are sometimes regarded as the lifeblood of a bull market. In addition to the usual seasonality in US election years, strong rotations could further increase volatility in equities in the second half of the year. We are currently "Overweight" the US equity market.

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