Weekly Comment

Practically in the home stretch, with just over 90% of the S&P 500 sample having reported their numbers, below, we share some relevant takeaways and perspectives from the first quarter earnings season of the year.

• Reasonable earnings growth: Despite general economic concerns amid high interest rates and a pickup in inflation, S&P 500 earnings beat expectations after the index reported 6% annual growth in earnings per share (EPS), exceeding the anticipated growth of 3%.

• Sector performance: The Communication Services (+38%), Utilities (+30%), Information Technology (+24%) and Consumer Discretionary (+24%) sectors posted the strongest annual earnings growth. While Brent crude oil prices in the 1Q24 prevailed unchanged versus the prior year, natural gas prices collapsed 24% and aligned more closely with the 26% and 21% annual decline in earnings in the Energy and Materials sectors, respectively. Finally, EPS in the Healthcare sector also declined 26%, albeit primarily due to Bristol-Myers Squibb’s (BMY) one-time expenses related to its acquisition of the Karuna company.

• Mixed consumer signals: Companies in the Consumer Discretionary and Consumer Staples sectors provided mixed outlooks, with some noting a slowdown in consumer demand while others reported strength. For example, McDonald’s outlined a more selective spending, while American Express noted an 8% annual increase in customer spending.

• Increased investment in Artificial Intelligence (AI) continues: Companies such as Amazon and Meta announced substantial investments (CAPEX) to improve their AI capabilities. In this context, this focus on AI is expected to drive future productivity gains and revenue expansion.

• Performance and expectations of the “Magnificent 7”: This block of companies, comprising AAPL, AMZN, GOOGL, META, MSFT, NVDA and TSLA, reported combined earnings growth of 48% YoY. This robust growth was driven primarily by a substantial increase in their sales and a significant expansion of their profitability margins. For example, META and GOOGL led the group with a sales growth of 27% and 15%, respectively. In contrast, AAPL and TSLA experienced sales declines of 4% and 9%, respectively. The outlook for these companies remains strong, especially for those investing substantially in AI. Although their numbers were positive overall, there is significant dispersion among their financial results within the group.

• Market forecasts: Based on the above, the consensus estimates that the EPS of the S&P 500 for the whole of 2024 would reach US$244, which would imply an annual growth of 9%. By 2025, the EPS would reach US$277, which would represent an annual increase of 13%.

S&P 500 sales, margins and earnings growth in the 1Q 2024:

Source: U.S. Bureau of Labor Statistics

The Consumer Price Index (CPI) posted a modest 0.3% increase in April 2024, following a slightly higher 0.4% increase in March, beating expectations that also anticipated a 0.4% increase. With this, the CPI climbed 3.4% annually from 3.5% in the previous month. On the other hand, core inflation excluding food and energy (Core CPI) continued its steady increase of 0.3% in April, similar to the previous three months and in line with expectations. However, in its annual variation, it observed a deceleration to 3.6% from 3.8% and resulted in the lowest since April 2021.

Below, we share the performance of the key components:  

• Energy: The energy index rose 1.1% in the month, maintaining the same increase as in March. This increase was significantly influenced by a 2.8% increase in gasoline prices. Annually, the energy index increased 2.6% with a 1.2% increase in gasoline prices.
• Food: Food indexes showed little change overall. The food at home index decreased slightly by 0.2%, while food away from home increased by 0.3%. With these data, the overall food index rose 2.2% over the past twelve months, with a significant 4.1% increase in food consumed away from home.
• Housing Costs: These continue to be an important driver of the index, after rising 0.4% in the month. Over the last twelve months, the lodging index increased 5.5%, indicating that housing costs maintain persistent upward pressure. Importantly, this category contributed substantially to the 3.6% annual increase in the core index.

Finally, the transportation and medical care categories recorded notable increases. In this sense, transportation services increased by 11.2% in the last year (0.9% in the month), while medical services saw a more moderate increase of 2.7% (0.4% in the month).

In this context, it can be concluded that the April report, to some extent, offers positive news that could provide some relief to the FED. However, the reality is that sustained inflationary pressures continue to be seen in terms of energy and housing costs. Therefore, markets may continue to navigate a higher interest rate environment for some time to come, at least until it becomes clearer that inflation is moving more strongly toward the FED’s 2% long-term target. Given this data, as well as the latest employment figures, the consensus is for the FED to leave the reference rate unchanged at 5.25 – 5.50% for the June 12 meeting. 

Change (%) in the last twelve months in CPI and Core CPI

Source: U.S. Bureau of Labor Statistics

Monthly change (%) of CPI

Source: U.S. Bureau of Labor Statistics

Key employment figures for the month of April were recently released and showed a weaker than expected performance and a marked slowdown compared to previous months. In this sense, nonfarm payrolls posted 175,000 jobs last month, down from the average of 269,000 jobs during the previous three months, and implied the lowest gain since October of last year.

Breaking down the data, the public sector was the main driver of this decline in reported job growth for April, as only 8,000 government jobs were added, compared to an average pace of 60,000 over the previous six months. For its part, the private sector continued to add jobs at a solid pace in April (+153,000), with the health care and social assistance sector accounting for more than half of these jobs (87,000).

As another sign of subdued labor demand, it is noted that the average workweek fell to 34.3 hours, and the unemployment rate rebounded slightly from 3.8% in March to 3.9% last month. Finally, average hourly wages increased by only 0.2% in the month, and with downward revisions from the previous month. Against this backdrop, annual wage growth declined to 3.9% from last year’s average of 4.4%. While all of these figures were less robust than in previous months, overall, they still reflect a healthy labor market environment.

That said, April’s employment figures, together with the first estimate of the 1Q24 GDP, which experienced an annualized growth of 1.6%, down from the 2.4% expected and 3.4% in the 4Q23, would be reinforcing the idea that the economy is heading towards a “soft landing”, the central scenario proposed for this year.

Regarding the potential implications of monetary policy, from the possible implications of monetary policy, it will be important to observe whether the next employment reports maintain this cooling trend. However, we do not rule out that FED officials have interpreted these figures positively, seeing them as a welcome sign that the labor market continues to reach a better balance and that monetary policy is tight enough. Next week will be crucial, as inflation for the month of April will be released. A slight expected decline to 3.7% annually  (excluding the volatile energy and food components) is expected. So far, consensus broadly indicates that the federal funds rate will remain in the 5.25% to 5.50% range for the next meeting on June 12.  

Nonfarm payrolls evolution 

• Monthly change, figures in thousands. 

Source: JP Morgan

The Federal Reserve (Fed) made the unanimous and widely expected decision to once again keep the target range for the federal funds rate unchanged at 5.25% – 5.50%, its highest level in the past 22 years. Since July of last year, the benchmark rate has remained unchanged. This decision comes in a context of accelerating inflation during the current year, placing it at 3.5% annually in March (3.8% annually excluding components with higher volatility such as food and energy), up from 3.2% in February.

On the other hand, the statement described that the latest employment indicators have shown solid performance, while inflation has decreased over the past year, although it remains elevated. In that sense, it was highlighted that, in recent months, there has been a lack of additional progress toward the Committee’s 2% inflation target. Therefore, it was reiterated that it is not expected to be appropriate to reduce the target range of the benchmark rate until there is greater confidence that inflation is moving sustainably toward its goal, and it will remain highly attentive to inflation risks. Despite the above, the Committee considers that the risks to achieving its employment and inflation objectives have moved towards a better balance in the last year.

Finally, an adjustment to its program of reducing holdings of Treasury bonds, agency debt, and agency mortgage-backed securities known as “Quantitative Tightening” was announced. Starting on June 1, only US$25 billion in Treasury bonds will be allowed to run off each month, compared to the current US$60 billion. Mortgage-backed securities will continue to run off by up to US$35 billion monthly.

During his press conference, Jerome Powell primarily highlighted that he considers it unlikely that the next interest rate move will be an increase, emphasizing that for now, that scenario appears improbable.

Evolution in the number of expected rate cuts for the federal funds rate

Source: Raymond James

It was recently announced that China’s economy advanced 5.3% annually in the first quarter of the year, a slight acceleration compared to the 5.2% rate of the 4Q23, and above the 4.6% expected by the consensus. Quarterly growth was 1.6% (vs. 1.2% in the 4Q23 and 1.4% expected). This result was driven in part by external demand, as export volume increased by 14% annually. However, as for the real estate sector, it continued to show a weak performance, after property investments declined by 9.5% annually in the 1Q24. The square footage of new commercial buildings sold fell 19.4% annually.

On the other hand, although the latest figures, corresponding to March, showed increases, they did not end up convincing, with industrial production advancing 4.5%, below the 6% estimate; while retail sales grew 3.1%, below the 4.6% forecast, and fixed asset investment grew 4.5% annually, slightly exceeding some expectations. Finally, the unemployment rate in major cities declined slightly to 5.2%, breaking a three-month streak of increases.

As can be seen, economic activity is showing divergent signals, with production growth stronger than consumption growth, and within fixed asset investment, real estate investment will continue to disappoint (mainly due to the problems faced by developers).

Under this mix of factors, the perspective that this economic performance would make the government comfortable with current policies is beginning to gain traction. Therefore, the impact of new stimulus (fiscal – monetary) would be reduced in the very short term, due to the pressure it could generate on banks and the additional pressure that the Yuan (CNY) could experience now that the Fed’s rate cuts could take longer than originally contemplated. However, the consensus baseline scenario still suggests that the economy could expand by 4.7% this year, which is in line with the government’s projection of “around 5%” growth.

China’s GDP growth

(Y/Y): Refers to annual growth

(Q/Q): Refers to quarterly growth

Source: Reuters

Understanding the dynamics of financial markets is crucial in the investment world, just as recognizing the psychological factors that influence our decision-making process. Behavioral finance addresses various biases and cognitive shortcuts that can lead investors to make poor decisions, impacting both short-term actions and long-term results. By becoming aware of these mental states and implementing strategies to mitigate their impact, we can improve our ability to make rational and disciplined investment decisions aligned with our financial objectives. In this context, we share some key points that can help mitigate these biases:

• Rationality vs. Loss Aversion: When facing potential losses, it’s natural to feel a strong emotional response. However, resisting the urge to make irrational decisions driven by fear is essential. Maintaining a long-term perspective and focusing on investment fundamentals can help navigate turbulent markets. Regularly reviewing your investment strategy ensures alignment with financial objectives and risk tolerance.
• Beware of Overconfidence: While confidence in our abilities can be empowering, overconfidence may lead to excessive risks and wrong decisions. Recognize that predicting market movements with certainty is impossible, necessitating a receptive and humble approach. Diversifying the portfolio and seeking objective perspectives from industry experts can mitigate overconfidence.
• Question the Herd Mentality: Following the crowd is tempting, especially in uncertain times. However, blindly following the herd can lead to unwise investment decisions. Cultivate an independent mindset, relying on critical analysis and research before making decisions. Evaluating information critically and seeking diverse perspectives are crucial for making justified decisions based on analysis and conviction.

In conclusion, understanding and managing behavioral biases is essential for making informed decisions in investing. Supported by a financial advisor, these skills become invaluable for developing and implementing strategies aligned with established objectives. Remember that investing is a long-term process, requiring discipline, patience, and a commitment to continuous learning.

Annual returns and intra-year declines of the S&P 500

Although historically there has been an average intra-annual decline of 14.2%, annual returns have been positive in 33 of the last 44 years.

Source: JP Morgan

The Consumer Price Index (CPI) experienced an increase of 0.4% this month, mirroring the rise seen in February but exceeding the anticipated 0.3% forecast. Consequently, this has elevated the annual inflation rate to 3.5%, compared to 3.2% in February, and slightly above the projected 3.4%.Upon examining the core components of the CPI, which exclude the volatile food and energy sectors, we observed a 0.4% increase, surpassing the expected 0.3%. This has resulted in an annual rate of 3.8%. The primary drivers of this month’s inflationary pressures were identified in the shelter and gasoline indices, which collectively accounted for over half of the monthly increase in the all-items index.

The energy sector experienced a notable revival, registering a 1.1% increase for the month, which corresponds to a 2.1% increase on an annual basis. Particularly, gasoline prices witnessed a monthly increase of 1.7%, culminating in a 1.3% annual growth. Concurrently, the food sector saw a modest uptick of 0.1% in March, amounting to an annual increase of 2.2%. It is significant to highlight that the cost of dining out surged by 0.3% on a monthly basis, resulting in a 4.2% annual escalation, while the prices for groceries remained unchanged. Moreover, shelter expenses sustained their ascending trend, making a substantial contribution to the monthly inflation surge with a 0.4% increase in March, equating to an annual rise of 5.7%.

The inflation rate has shown a notable acceleration since the beginning of the year, with persistent challenges in mitigating housing and shelter costs, further exacerbated by the recent pressures from the energy sector due to geopolitical tensions in the Middle East. In light of the March policy meeting, the Federal Reserve, along with several of its officials, emphasized the ongoing need to address inflation concerns. As such, it is anticipated that we will persist in a higher interest rate environment for an extended period before considering any potential reductions. Presently, the market consensus for the June policy meeting has significantly shifted, with a 79% expectation for maintaining the current rate, diverging from previous anticipations of an initial rate reduction.

Change (%) in the last twelve months in CPI and Core CPI

Source: U.S. Bureau of Labor Statistics

Monthly change (%) in CPI

Source: U.S. Bureau of Labor Statistics

Setting itself apart from other developed country central banks, the Bank of Japan (BoJ) decided to raise the short-term interest rate from -0.1% to a range of 0.0% – 0.1% in recent weeks. This move ended a 17-year era of negative interest rates, a situation unprecedented in recent history. Additionally, it ended its control of the yield curve (although it will continue to buy sovereign bonds) and its program of buying ETFs and real estate investment trusts (REITs).

In this context, the question arises: What structural changes have occurred in the country’s macroeconomic environment? After many years of fighting deflation, Japan has been experiencing inflation above the BoJ’s 2% target since April 2022, driven by wage increases not seen in decades, the rebound in the economy, and cost increases that local companies have been able to pass on to consumers after a long period of stable and declining prices. This mix of factors has allowed company profits to rebound. There is speculation that this change in the course of monetary policy is considered a legacy of the policies introduced by Japan’s late Prime Minister Shinzo Abe with the inception of ‘Abenomics’ over a decade ago to combat two decades of a deflationary environment. Much of the optimism that the country’s equities have registered in just over a year would be supported by all of these factors and the region’s longstanding underexposure.

It is worth noting that the reaction within the financial markets was moderate, with Japanese government bond yields experiencing minimal change, the Japanese yen (JPY) experiencing some depreciation, and Japanese equities showing little change.

Finally, the question is whether the Bank of Japan will raise rates again in 2024, and if so, what will be the pace of further increase? Currently, market expectations suggest that the short-term rate could reach 0.25% by the end of the year. However, the most likely scenario points to a broadly accommodative policy stance in the near term, with gradual rate hikes. To provide further clarity, the central bank will be watching the release of the April economic report, the conclusion of the spring wage negotiations, and the inflation release (April 19) before its next monetary policy meeting on April 26. In summary, this move by the Bank of Japan, although symbolic, should be interpreted as a first step on a long road to monetary policy normalization still to come.

MSCI Japan Index cumulative price returns (%)

* Cumulative price yields shown from December 31, 1980 through February 29, 2024 in Japanese yen.

 Source: Capital Group

Quarterly earnings season will begin in the coming weeks. The most recent report indicates that the analyst consensus anticipates annual earnings growth for the S&P 500 of 3.4% (YoY) for the first quarter of the year. If confirmed, this could mark the third consecutive quarter of YoY earnings growth for companies. However, this estimate is lower than the 5.7% YoY increase that analysts estimated at the beginning of the quarter.

Six of the eleven sectors are projected to report YoY earnings growth, led by the utilities, technology, communication services and consumer discretionary sectors. In detail, it highlights the expected 20.3% YoY earnings growth in the technology sector, where NVIDIA, Microsoft and Micron Technology have been the main contributors to this increase. In the case of the consumer discretionary sector, Amazon.com and cruise companies stand out as the main factors behind the expected growth of 15.3% YoY. On the other hand, four sectors are expected to report a YoY decline in earnings, led by the energy and materials sectors in the face of lower commodity prices. Finally, the industrial sector is expected to report an unchanged (0.0%) YoY earnings performance. 

At the revenue or sales level, the consensus forecasts a 3.6% YoY increase, which is below the average revenue growth of the last 5 years (+6.9%) and below the average revenue growth of the last 10 years (+5.0%). Nonetheless, if the 3.6% expected revenue growth were to materialize, revenues would accumulate fourteen quarters of positive growth. With this combination of factors, the net income margin for the quarter would be 11.6%, practically the same as in 1Q23, although better than the 11.5% average of the last five years.

Analysts continue to project that earnings and revenues for the full year could reach increases in the order of 10.9% and 5.1%, respectively. 

As is customary, JP Morgan will kick off on April 12; therefore, investors’ focus will be on the development of the season, amid a high level of optimism for the AI boom and the prospect that the first interest rate cutbacks could occur later this year. 

S&P 500: expected earnings growth for the 1Q24

Source: FacSet

The Federal Reserve (FED) made the unanimous and widely anticipated decision to once again leave the target range for the federal funds rate unchanged at 5.25% – 5.50%, its highest level in the last 22 years. Since July 2023, the FED has not changed the target range. This decision comes in the context of accelerating inflation, which reached 3.2% annually in February (3.8% annually excluding the most volatile components such as food and energy), along with an increase of 275,000 jobs (versus 198,000 estimated).

In this context, the statement described that the latest employment indicators have shown solid performance, while inflation remains elevated despite its notable reduction over the last year. Additionally, the statement reiterated that the Committee does not expect it to be appropriate to reduce the target range until it has gained greater confidence that inflation is moving sustainably toward 2%, while it will continue to monitor the implications of incoming information for its future decisions.

On the other hand, the FED updated its macroeconomic perspectives, reaffirming that there will be 3 rate cuts of 25 basis points (bps) in the remainder of the year, unchanged compared to December’s estimate. This would bring the federal funds rate to 4.6% from its current average level of 5.4%. By 2025, it could end at 3.9% from 3.6%. As for the economic scenario, the new estimate underwent a notable upward revision, with GDP growth of 2.1% from the previously estimated 1.4% by the close of 2024. By 2025, strength could be maintained with growth of 2% from the 1.8% previously forecast. These scenarios place the economy at growth very close to its long-term potential of around 2%. The unemployment rate remained unchanged for both years at around 4%. However, estimated core inflation (excluding volatile components such as food and energy), as measured by the Core PCE, rebounded slightly to 2.6% from 2.4%, while the estimate for 2025 remained at 2.2%.

During his press conference, Jerome Powell confirmed that the federal funds rate has peaked. Additionally, he reaffirmed the commitment to return inflation to its long-term target of 2% and expressed confidence that eventually we will begin to see less pressure related to services and housing costs, which have been affecting core inflation. However, Powell noted that the timing of when this may occur is difficult to estimate.

Economic projections of Federal Reserve (March vs. December)

Source: Federal Reserve