StockBeat: Preparing for the No-Visibility Earnings Season

This post was originally published on this site — What can investors hope to learn from the first-quarter earnings season about to begin?

At first glance, not much. The news flow about the Covid-19 outbreak has been so overwhelming, so relentless in the last couple of months that corporate summaries will have lost their ability to shock, or even maybe to be even mildly surprising.

The U.S. Securities and Exchanges Commission last week warned U.S. companies not to dwell on the historical stuff and concentrate on “where the company stands today, operationally and financially…and how its condition may change as efforts to fight COVID-19 progress.”

Such advice, of course, immediately runs into the problem that few companies have any clear idea of the future.

None will be have a clear view of the progress of the medical emergency. Will it return as lockdown measures are lifted? Will reinfections prevent a smooth return to normal? Will herd immunity or a miracle drug consign Covid-19 to the past within months? No-one knows.

Few will have a clear handle on the efficacy of financial support measures announced so far by governments. Can the bureaucratic delays to getting cash out to households and businesses be reduced?  Can the programs be sustained, especially if not properly backstopped? That applies less to the U.S. than to the euro zone, whose finance ministers again shelved a decision on joint debt issuance before Easter. It applies even more to emerging economies, which need the support of the International Monetary Fund and other multilateral organizations to avoid ‘sudden stops’ in their economies. It seems too much to think that fiscal and monetary measures will be equally effective the world over.

But the biggest open question of all will be how companies judge the future behavior of their customers. For businesses with an essentially B2B model, the signs are not encouraging. Every business to have updated in recent weeks has been determined to cut “discretionary” expenditure to conserve cash. That means an effective stop to business investment, except in some niche areas like medical equipment. A gloomy update last week from SAP, which faces a broad spectrum of business customers, illustrated that point well.

Consumer stocks – especially those exposed to staples – have the better visibility. Food and drink stocks, and supermarkets, have been the best performers of the year to date, but some of Europe’s stronger fashion names such as Inditex (MC:ITX), Zalando and Adidas (DE:ADSGN) have also bounced particularly sharply in recent weeks as the light at the end of the tunnel has got a little broader.

But a (U.S.-focused) note from Goldman Sachs (NYSE:GS) underlines the potential risks still out there.

“The level of 2021 earnings matters for 2020 stock prices,” the bank’s equity strategists wrote. U.S. stocks currently trade on an implicit valuation of 16 times 2021 earnings, which doesn’t seem a particularly conservative discount to historical averages, given the size of the uncertainty.

“If consensus EPS forecasts are revised lower, as we expect, the implied market multiple will become even more elevated. Put differently, our macro valuation model indicates that either the S&P 500 index should be 25% lower, consensus 2021 EPS should be 25% higher.

The only other explanation they offer is that “equity valuations today are tied more closely to policy support and investor sentiment than to the traditional drivers captured in our model,”

That’s a polite way of saying ‘blind trust in the Fed and the U.S. administration”.