weekly trends april 10, 2015

8/9/2019 Weekly Trends April 10, 2015

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Weekly TrendsRyan Lewenza, CFA, CMT, Private Client Strategist April 10, 2015

Please read domestic and foreign disclosure/risk information beginning on page 4 Raymond James Ltd. 5300-40 King St W. | Toronto ON Canada M5H 3Y2.

2200-925 West Georgia Street | Vancouver BC Canada V6C 3L2.

Low Bar For Q1/15 Earnings Season As of quarter-end, analysts were forecasting S&P 500 Index (S&P 500) Q1/15

operating EPS of US$27/share, which if realized, would equate to a 0.5% Y/Ydecline in earnings. This would match the disappointing Q4/14 growth rate andrepresent the first back-to-back quarters of negative growth since the financialcrisis.

We see three central factors driving the weakness in US corporate earnings: 1)weaker US economic activity in Q1/15; 2) the stronger US dollar; and 3) weakoil prices.

Not surprisingly, the energy sector is expected to see the largest earningsdecline of -38% Y/Y. The utilities and telecom sectors are also expected todeliver weak earnings growth of -34% and -21%, respectively. The informationtechnology and industrial sectors are expected to deliver the highest Y/Y

growth rates of 36% for both sectors. With expectations low for Q1/15 earnings results, any upside surprises would be

positive for stocks, and could lead to the S&P 500 breaking out of its recentrange. However, if results come in below the already lowered bar, then thelikelihood of a pullback significantly increases. This is particularly true for thisquarter given: 1) the elevated valuation levels for the S&P 500 with the indextrading at 18.3x trailing earnings (see March 27, 2015 report); and 2) the S&P500 has not experienced a 10% correction (on a closing basis) since mid-2011.Clearly, a lot is at stake for this earnings season, which either way is likely toresult in increased volatility over the next month.

Equity Market YTD Returns (%)

Canadian Se ctor TSX We ight Recomme ndat ion

Consumer Discretionary 6.5 OverweightCons umer Sta pl es 3 .7 Ma rket wei ght

Energy 21.5 Market weight

Financials 34.4 Market wei ght

Health Care 5.3 Underweight

Industrials 8.3 Overweight

Information Technology 2.5 Overweight

Materials 10.8 Underweight

Telecom 4.7 Market weight

Uti l i ties 2 .2 Underweight

Technical Considerations Level Reading

S&P/TSX Composite 15,328.7

50-DMA 15,008.8 Uptrend

200-DMA 14,912.4 Uptrend

RSI (14-day) 62.8 Neutral

Source: Bloomberg, Raymond James Ltd.

6.8

6.7

17.9

3.3

4.1

1.1

1.74.8

- 5 -3 0 3 5 8 10 13 15 18 20

MSCI EM

MSCI EAFE

MSCI Europe

MSCI World

Russell 2000

S&P 500

S&P/TSX Small Cap

S&P/TSX Comp

11,000

11,500

12,000

12,500

13,000

13,500

14,000

14,500

15,000

15,500

16,000

Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15

S&P/TSX50-DMA200-DMA

Chart of the WeekS&P 500 Q1/15 EPS Growth Is Expected To Match Q4/14 At -0.5% Y/Y


24.9%23.7%

17.2%

12.6%

8.1%

0.5%2.2%

5.2%

1.3%

4.3%

7.6%

11.1%

6.9%

10.0%7.5%

-0.5% -0.5%-3%

2%

7%

12%

17%

22%

27% S&P 500 EPS Growth Rate Y/Y

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Weekly Trends April 10, 2015 | of 4

Q1/15 Earnings PreviewRetired CNBC anchor Larry Kudlow was prone to saying that “earnings are themother’s milk of stocks.” This market adage speaks to the crucial link betweenearnings and stock prices. We couldn’t agree more, as evidenced by the high 0.96correlation between S&P 500 earnings and stock prices over the long run (seesidebar). With the Q1/15 earnings season commencing this week, and expectationsfor a disappointing quarter, we wanted to provide a preview of the earnings quarterand what it could bode for stocks over the next few weeks.

As of quarter-end, analysts were forecasting S&P 500 operating EPS of US$27/share,which if realized, would equate to a 0.5% Y/Y decline in earnings. This would matchthe disappointing Q4/14 growth rate and represent the first back-to-back quarters ofnegative growth since the financial crisis. We see three central factors driving theweakness in corporate earnings:

There has been a clear downshift in the US economy with Q1/15 GDPtracking around a paltry 1%. For example, exports and manufacturing havebeen under pressure, in part due to the stronger US dollar, while consumerspending has been disappointing despite low gasoline prices. But the upside

is that we see economic growth improving in the coming quarters. Over thelast few years the US economy has followed this similar script, being weakin the early months of the year, then reaccelerating through the rest of theyear.

The US dollar rallied sharply in the quarter with the US Dollar Index up 8.9%.The continued strength in the US dollar is a significant headwind for USmultinationals as overseas profits are translated back to the US dollar. Withroughly 40% of S&P 500 revenues coming from outside the US, a strongerUS dollar is proving to be major headwind on corporate profits.

Finally, oil price weakness continues to weigh on overall S&P 500 earnings.Q1/15 S&P 500 earnings were revised lower by $2.17 (from $29.17 to $27)over the quarter, with negative revisions from the energy sector driving thelion’s share of the decline. Oil prices averaged $48.63/b bl. in the quarter,which was down more than 50% from the year-ago quarter.

We believe these factors will be the dominant themes impacting earnings in thequarter, and why results are likely to be lackluster. However, we believe thesefactors will prove to be transitory, and see corporate earnings improving over theyear.

S&P 500 Earnings Are Projected To Decline 0.5% In Q1 US Manufacturing Has Rolled Over


24.9%23.7%

17.2%

12.6%

8.1%

0.5%2.2%

5.2%

1.3%

4.3%

7.6%

11.1%

6.9%

10.0%7.5%

-0.5% -0.5%-3%

2%

7%

12%

17%

22%

27% S&P 500 EPS Growth Rate Y/Y

30

35

40

45

50

55

60

65

'00 '02 '04 '06 '08 '10 '12 '14

ISM Manufacturing Index


0

500

1,000

1,500

2,000

'54 '59 '64 '69 '74 '79 '84 '89 '94 '99 '04 '09 '1

S&P 500 Index (LHS)

S&P 500 Trailing EPS (RHS)

r = 0.96

Over The Long Run Equity PerformanceIs Driven By Corporate Earnings




Sector BreakdownLooking at sector performance, the information technology and industrial sectors areexpected to deliver the highest Y/Y growth rates of 36% for both sectors. We findthis interesting given that these sectors have significant foreign exposure. Notsurprisingly, the energy sector is expected to see the largest earnings decline of -38%Y/Y. In the accompanying chart we illustrate the tight relationship between WTI oilprices and the S&P 500 energy sector EPS. We note that WTI oil prices have declinedroughly 55% since last summer while S&P 500 energy earnings have declined by 40%,leaving the sector vulnerable to further negative revisions. The utilities and telecomsectors are also expected to deliver weak earnings growth of -34% and -21%,respectively.

Conclusion

With expectations low for Q1/15 earnings results, any upside surprises would bepositive for stocks, and could lead to the S&P 500 breaking out of its recent range.However, if results come in below the already lowered bar, then the likelihood of apullback significantly increases. This is particularly true for this quarter given: 1) theelevated valuation levels for the S&P 500 with the index trading at 18.3x trailingearnings (see March 27, 2015 report); and 2) the S&P 500 has not experienced a 10%correction (on a closing basis) since mid-2011. Clearly, a lot is at stake for thisearnings season, which either way is likely to result in increased volatility over thenext month.

Forecasted Sector EPS Growth Rates For Q1/15 Oil Prices Drive Energy Sector EPS


36.0% 35.5%

16.4%9.7% 7.9%

-2.9% -5.2%

-20.9%

-34.3% -37.6%-50%

-40%

-30%-20%

-10%

0%

10%

20%

30%

40%

50%

S&P 500 Q1/15 Expected Earnings Growth

$0

$20

$40

$60

$80

$100

$120

$140

$160

$0

$2

$4

$6

$8

$10

$12

$14

$16

$18

$20

'05 '06 '07 '08 '09 '10 '11 '12 '13 '14 '15

S&P 500 Energy EPS (LHS)

WTI Oil (RHS)








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weekly trends april 10, 2015

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