* Analysts expect the first quarterly profits recession since 2009
S&P 500 1Q bottom-up EPS has come down 8% over the last three months to $27.05 – a bigger cut than any other recent quarter (Chart 2). This quarter marks the first since 2009 in which analysts expect earnings to decline YoY: including the impact from buybacks, EPS is slated to fall 4% YoY. Is this a reason to sell US stocks? While revision trends suggest muted near-term returns, during nonrecessionary quarters in which EPS growth was negative – and this has happened 31 times since 1960 - the S&P was up 60% of the time during earnings season with an average return of 2%. We expect the EPS recession to be transitory, with positive EPS growth resuming in the 2H.
* Expectations slashed on bigger impact from oil this qtr…
The sizable cut has been chiefly due to Energy, where estimates have fallen ~50% YTD. Ex Energy, EPS has come down 5%, slightly worse than the typical pre-EPS season cut of 3-4%. Expectations suggest 1Q earnings will decline 6% YoY (but grow 1% ex. Energy) and that sales will fall 2% YoY (but grow 3% ex. Energy).
* …and from the stronger dollar
The impact to EPS from lower oil and a stronger USD will be greater this quarter than in 4Q14, with the average levels of WTI and the DXY index -51% and +18% YoY, respectively – double the impact of 4Q14 (-24% and +9%). As the oil impact is evident in sector revisions, the impact from FX is also evident in that stocks with high (>30%)
foreign sales have seen 1Q earnings expectations slashed by 13% YTD, while pure domestics have seen earnings revised up slightly over this period.
* A modest beat may be in the cards
Given USD strength, we took down our 1Q EPS to $27.50 from $28.25. This suggests a modest (~2%) beat vs. consensus, which is likely given how dramatically estimates have been cut. The average beat has been 3-4% over the last three years. 1Q estimate cuts have slowed since mid-March (when the USD peaked), and early reporters have generally held up - nearly 70% have beaten on EPS. And as we recently noted, other factors besides FX drive multinationals’ EPS, like global growth. The GLOBALcycle indicator suggests that growth is tracking at a healthy
3.5% pace, and last quarter 60% of multinationals surprised to the upside on EPS.
* Own Health Care, avoid Energy this season
According to measures that have historically been most predictive of strong or weak results (including revisions, guidance and the prior quarter’s results) Health Care screens as most attractive while Energy screens worst – this was also the case in 4Q14, and results were generally in line with our expectations. On pg 3 we include screens for stocks most likely to positively and negatively surprises based on fundamental and quantitative inputs. We also include screens for crowded stocks which could see downside risk based on active managers’ positioning, a particularly important read heading into earnings season as crowded stocks tend to fall much harder on disappointing results and/or guidance.