As the GameStop and Reddit WallStreetBets mania runs out of steam, markets get back to what matters most, earnings. About two thirds of the S&P 500 components have now reported fourth quarter results, with bottom line metrics handily above estimates. Amazingly, last quarter’s earnings are already ahead of 2019’s pre-pandemic levels. Obviously, some sectors are still worse off while stay-at-home winners took share, but overall, we are seeing a solid V-shaped rebound for much of the economy.
If things continue as we expect, we will end the year on record pace, possibly with a $200 Earnings Per Share run rate in the S&P 500. Assuming interest rates are still low, a 20 P/E is not far-fetched. Simple math gets us to 4,000 on the S&P 500, or another 3% from here. Optimism, momentum and TINA (There Is No Alternative) point to even higher prices.
Companies always give guidance with some wiggle room on the upside. Historically, most companies beat their low-balled projections, but nowhere near the strength of this reporting season. In total, 85% of companies are beating estimates by 18%. This is five times the normal level. As you might expect, technology companies are leading the way with 22% revenue growth, while the rest of the market is showing an 8% drop in sales. One can imagine how strong those other sectors will be in a few months when the majority of us get vaccines and emerge from lockdowns.
The only negative point has been the initial response to these exceptional earnings. On average, companies that beat both revenue and earnings-per-share predictions have declined the next day of trading by 1%. Normally, this rare outsized beat would bring about higher stock prices immediately. Those that missed were down 2.5%. Preliminary reactions to earnings reports likely stem from the volatility and market fragility at the time, with respect to the Reddit short selling clan. Since that subsided, stocks are now staging a strong rebound, led by the big growers and reflation beneficiaries. Call it a delayed effect to really positive reports.
Below is a snapshot by sector on earnings beats. As you might expect, REIT’s had a tough time with forced closures, while Technology and Communication Services were big beneficiaries:
As expected, GameStop is now coming back to Earth, dropping from a high of $483 to close at $53 yesterday. It will likely revert back to the true fundamental value, based on earnings, of the old trading range around $10/share. This is still a company that sells hard copies of video games that are becoming extinct. Hopefully, small retail investors were able to get out with either a profit or a lesson in market dynamics. There is no free lunch in any walk of life.
With the fear of contagion and unexpected volatility slowing down from the David vs. Goliath show, focus shifts back to future earnings. Stocks like what they see as the Nasdaq, Russell 2000 (small cap) and S&P 500 closed at record levels. The Dow Jones isn’t far behind. Futures this morning are pointing towards more records across the board. On the interest rate front, the 10-year US Treasury yield is back up to 1.14%, erasing last week’s drop. This helped financial and cyclical stocks to lead the way on the upside.
Stimulus hopes are the next earnings catalyst for our reopening trade. Biden’s $1.9 trillion bill was more of a hope than an expectation. Republicans’ $600B counter offer is more of the same. If “Unity” is indeed the President’s plan, it will take time to meet on common ground. A bipartisan agreement would be under $1T and could push funding out until March.
Democrats, emboldened by their election sweep, are eager to accomplish more and have quickly moved the process to reconciliation, where they do not need 60 Senate votes. Reconciliation allows any party in control of Congress to pass legislation with a simple majority in the Senate, without worrying about a filibuster. It can only be attached to changes in spending stemming from a budget. Since no budget was passed in 2020, Democrats can actually use the reconciliation process twice this year. Neither party wastes this kind of opportunity.
Not everything fits though, only where spending occurs. That means the $15 / hour minimum wage is not included. Going this route would result in a larger bill than a bipartisan effort, possibly as high as $1.6 trillion, and signing in February. The sooner this gets done, the better from a stock perspective.
It becomes a pretty easy scenario for bulls. Trillions in unspent stimulus from last year, more money on the way, Fed Funds locked in at 0%, pent-up demand, vaccinations expanding, Covid case counts on the downslope and nowhere else to invest, leading to rising asset prices.
For now, the bulls are back in control. Jim Meyer has already touched on what can stop this (Fed pulling the punch bowl). However, that is not on the minds of investors at the moment.
Soccer star Cristiano Ronaldo is 36 today.
James Vogt, 610-260-2214