surprises? Not much – the big picture

“With more than 71% of S&P 500 companies finishing reporting revenue and earnings for the second quarter of 2021, revenue and earnings surprises are at their lowest levels since the pandemic recovery began. Revenues exceeded expectations by 2.5%, and profits exceeded estimates by 5.6%.” Ed Yardeni

We’re entering the dog days of summer as the markets come out at their best July in years. There is some hope that the lows set in June will be a ‘bottom’ and that the markets will return to their previous bullish tendency.

There is still a lot of skepticism that it is that easy: the markets seem to have ignored the already mild recession but nothing more serious; The 2/10s yield curve inverted a little deeper than the previous time; The CPI will be released next week, providing a fresh hint about where inflation is going, and what the Fed might do at its September meeting. If all goes well, perhaps all the optimism is justified.

And after. . .

There are plenty of ways this rally could unravel. The biggest concerns are corporate earnings and profits. All things considered, it was holding up well. Investors seem to rely on earnings to stay strong even if the economy is in a short and shallow recession.

Consider the Yardeni chart (top) showing earnings surprises: Despite a variety of economic and geopolitical negatives, earnings have remained relatively flat. (Revenue also). Given that we’re still about 3/4s of the way through the second quarter earnings season as you know, the odds of more surprises tend to be steep (larger surprises to the upside/downside tend to be announced earlier).

What worries me isn’t Q2 earnings but rather Q3: As we’ve shown time and time again, consumer and business demonstrated continued strength throughout the first half of the year. What worries me is the impact of the violent FOMC tightening cycle. The dynamic results of these changes did not appear in the first two quarters of the year. The back-to-back negative GDP prints have been a technical mix of inventory-building trade, a strong dollar, and higher inflation than an actual contraction of economic activity.

But that was before we had two back-to-back 75 base rate increases — we went from zero a year ago to 2.25-2.50% of what was actually zero before March of this year. And that’s before we end quantitative easing (QE), and replace it with quantitative tightening (QT).

September is the time when we could see somewhat ugly pre-roll ads. It’s a bit good to anticipate a reconsideration in October of the dips as the overheating of the FOMC weighs on corporate earnings, but that’s definitely one possibility.

I noticed near the lows in June that I”The paradox inside me is just starting to get this itch to buy here, but it’s not a “should I get some” like 2020 or 2009. “I suspect the potential for a great trade entry is somewhere. End of Q2 or start of Q3 are potential dates, depending on how things go.

In the meantime, here are the days of summer for dogs. Enjoy it while you can. . .

Source: Yardini Research

Signs of softening (July 29, 2022)

Soft Landing RIP (25 July 2022)

Why Recession Matters to Investors (July 11, 2022)

Too To Sell Too Early To Buy… (June 16, 2022)

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