US Corporate Earnings Adjusting to Strong Greenback, Weak Oil Price

Falling earnings estimates searching for inflection point
By Rahul Vaidyanath, Epoch Times
February 3, 2016 6:26 pm Last Updated: February 7, 2016 12:05 am

Most of a highly anticipated corporate earnings season in the U.S. has come to pass and has underscored the divergence between the energy sector and other sectors. Given the woes of the stock market to start 2016 and global economic concerns, investors have been eager to gauge how well corporate profits are holding up.

The rout in the energy sector is weighing down S&P 500 earnings. In addition, U.S. multinational companies face slowing export growth and international revenue figures look worse when reported domestically due to the strong greenback.

As of Feb. 2, 66 percent of the S&P 500 (by market capitalization) has reported 2015 fourth quarter earnings. RBC tabulates that earnings are beating expectations by 4.9 percent and revenues have now surprised by 0.3 percent.

For most of this quarter’s earnings season, however, revenues had been lower than expectations. The challenge for companies is to keep growing sales instead of cutting costs to boost profit.

It’s a persistent slower earnings growth environment.
— Robert Kavcic, senior economist, BMO

RBC notes earnings per share (EPS) is on pace for a 1.4 percent decline, assuming earnings continue to beat expectations at the same 4.9 percent rate for the remaining companies in the index. Excluding energy, EPS would be up 4.6 percent. Energy is easily the worst performing sector in the S&P 500 with revenues down 33.7 percent and earnings down 73.5 percent year-over-year.

The trend is that earnings growth has been declining. FactSet notes that if the S&P 500 reports a decline in Q4 2015 earnings, it will be the first time since the 2009 recession that the index has seen three straight quarters of year-over-year earnings declines.

“It’s a persistent slower earnings growth environment because of what we’re seeing in the macro economy,” BMO senior economist Robert Kavcic tells Epoch Times.

Forward earnings expectations for the S&P 500 have been coming down for at least a year and part of that has been reflected in lower stock prices, he explains. It’s a process whereby expectations have to come down to reflect the environment of lower oil prices and a stronger U.S. dollar.

2016 first quarter EPS estimates dropped 4.7 percent during January, according to FactSet. This is worse than the 1-year, 5-year, and 10-year averages of EPS estimates recorded during the first month of a quarter.

“Eventually, corporate profits start to have an easier time topping that lower expectations bar and then ultimately that sets us up for stabilizing stock prices later in the year,” says Kavcic.

The U.S. dollar surged in the second half of 2014 by nearly 15 percent. After an up-and-down 2015, it appreciated 3 percent in the fourth quarter. The price of West Texas Intermediate (WTI) is down roughly 50 percent since mid-2015. Corporate earnings are still adjusting to these variables, which have yet to find stability.

The strong greenback’s adverse effect on U.S. companies’ earnings is expected to continue given the relative robustness of the U.S. economy. For companies with a higher percentage of international sales, it will be more difficult to get profit growth and stock price appreciation.

Consulting firm Accenture had an enlightening comment on its Dec. 17, 2015 earnings call about the U.S. dollar’s effect.

“Net revenues for the quarter were $8 billion, a 1.5 percent increase in USD, 10 percent in local currency, reflecting a negative 8.5 percent [foreign exchange] impact,” it said, as reported by FactSet.

But it’s not an outright earnings recession according to Kavcic given that the vast majority of the decline has been in a couple of sectors, namely energy and materials. “We’ve really not seen broad-based contraction in earnings across various sectors of the economy,” Kavcic says.

In fact, consumer discretionary and “new” technology (Apple, Alphabet, Facebook) remain solid due to the strength of the U.S. consumer benefiting from low oil prices. Health care and telecom have shown strong year-over-year EPS growth too.

Implication for Canada

Given that what’s happened in the oil market is largely a supply shock—and much less a demand one—the fundamentals of U.S. demand for Canadian non-energy exports are positive. “We’re still looking at final domestic demand in the U.S. economy growing at 2 to 3 percent through 2016,” Kavcic says.

What’s plaguing U.S. corporate earnings is a boon to its counterpart in Canada. “If you look at the non-energy sector, the fact that the Canadian dollar is down so much, that’s a direct boost to corporate profits in Canada for almost the exact opposite reason that the U.S. earnings have slowed,” Kavcic says.

Sales made by Canadian companies in the U.S. are worth some 15 percent more than a year ago due to the weak loonie.

But times are tough on the energy front with cases like Imperial Oil’s profit dropping 85 percent in Q4. Imperial Oil was the first of Canada’s 55 energy companies in the TSX to report quarterly earnings.

Follow Rahul on Twitter @RV_ETBiz