Global Weekly: Company earnings; a first impression

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Now that the first-quarter earnings season has kicked off, we can draw a few preliminary conclusions based on company results released so far. For companies listed in the S&P 500 Index, we see that while sales are mixed, earnings per share are mostly exceeding expectations.

For a good part, this is due to share buy-back programmes (through share buy-backs, a company reduces the number of its outstanding shares, resulting in higher earnings per share).

In Europe, the effect of share buy-backs is not that strong, as these programmes are less frequently applied by European companies. With only a few European companies having reported so far, we conclude that the majority of them (60%) do not meet earnings expectations.

The previous earnings season left us with the impression that companies had higher hopes for the full year than for the first quarter. Many companies indeed are expecting a better full year. Investors are therefore focussing on what reporting companies have to say about their outlooks.

Assuming that the full-year results will indeed turn out to be very positive, the question we may ask is whether the market has already priced in better results. One argument for a positive answer to this question is that the S&P 500 rose some 16% year-to-date and is near its all-time high. An argument against it is that the price/earnings ratio of this index (19x) is still below its high of 23.4x (reached early 2018). For European companies, the picture is more or less similar: the Eurostoxx 600 is not too far from its high but valuations seem not overly stretched. So this leaves the investor wandering in the woods.

Our stance is that we may face a lower growth environment in 2019/2020, apart from some short-term risks (such as risks related to trade negotiations). Hence our current position in equities is neutral.

Bonds – passing up on negative yields

The global economy went through a serious ‘soft patch’ around the turn of the year. Financial markets noticed first, but central banks followed quickly. Their dovish turns in combination with early signs of economic resilience (mainly in the service sector) and the first green shoots in the manufacturing sector have helped to further reduce risk aversion from its peak at the start of the year.

We keep finding ourselves in a low-interest-rate environment where many high-quality bonds have negative yields (approximately 45% of the Barclays Euro Aggregate index). In our view, these bonds are not particularly attractive (even cash is a more compelling alternative). We therefore remain underweight in this part of the market. Within this market we maintain our tilts towards corporate bonds and Italian and Spanish government bonds, where we can still benefit from positive yields. We acknowledge that political risks, which could hurt these positions, remain. These risks include a populist government in Italy, Brexit and the trade war potentially coming to Europe. However, as we do not expect these risks to materialize, we believe these positions should do relatively well in the current low-rates-low-inflation environment.

Furthermore, inflation linkers have become very cheap as a result of falling oil prices last year. However, they may have a hard time to recover fast, as central banks are struggling to keep inflation expectations from falling. Compared to our negative stance on high-quality bonds, we are somewhat more positive on the higher-yielding bond universe. Here, we prefer emerging market debt (EMD) over high-yield corporate bonds because of decent fundamentals and relatively strong growth rates in emerging countries.