THE POLAR VORTEX HAS PUT A CHILL ON U.S. BUSINESS CONDITIONS IN EARLY 2014 2/28/14

As we wrote in our 2014 Market Outlook, we are anticipating upside surprise in economic growth numbers for this year.  However, the cold weather has thrown this forecast off course somewhat in the short term.   But we believe spring will bring a lot of pent up demand both from consumers and businesses.  The energy boom in the U.S. will be running full steam as natural gas prices finally increased after several years of historic low prices due to ample supply.  The energy sector could produce more jobs than anticipated in 2014 – especially if Congress actually does something to modify the strict rules on exporting U.S. natural gas.  We will be watching this closely over the next few months. 

One of our key indicators for 2014 is business confidence. We have been studying the level of capital investment by businesses, which has lagged considerably during this recovery compared with past cycles, and it is clear that in 2013 we saw some firming of capital investment.  More recently we have started to see indications of an improving trend in the data, particularly with respect to non-defense ex-aircraft capital goods orders. This uptick is corroborated by the ISM survey’s new-orders component. It appears businesses have finally gained some confidence to sustain an increase in spending, which would help GDP growth accelerate in 2014.

Confidence among U.S. chief executive officers rose in the fourth quarter to the highest level since April 2012 as more business leaders projected gains in sales and employment, a private survey showed.  The Young Presidents’ Organization sentiment index climbed to 63.5 from 60.5 in the previous three months. Readings greater than 50 show the outlook was more positive than negative. 

Fifty-two percent of executives surveyed said the economy has improved from six months ago, up from 38 percent who said so in October. Nine percent said the economy will worsen, down from 20 percent last quarter.  Gross domestic product, the value of all goods and services produced, expanded at a 2.4 percent annualized rate in the fourth quarter, according to Commerce Department data. Household purchases, which account for about 70 percent of the economy, grew 3.3 percent, the best performance since the end of 2010.  Fifty-eight percent of chief executives in the YPO survey expect conditions to improve in the next six months, up from 42 percent in the previous period.

The Dallas-based group’s outlooks for demand, hiring and capital investment also advanced. The gauge of sales expectations for the coming year rose by 2.9 points to 68.7. The employment index climbed to 59.9 from 58.9.  Globally, business confidence grew in most regions. The YPO’s Global Confidence Index also rose to the highest level since April 2012.  The nonprofit service organization’s findings for the U.S. are based on responses from 2,088 global chief executives, including 940 in the U.S., to an electronic survey conducted during the first two weeks of January.

The cold weather in the first two months of the year will likely lead to a delay in corporate spending, but pent up demand could result in a strong acceleration in business spending in the second half of 2014.  This is one of the critical components to stronger GDP growth in the U.S. and we will continue to monitor this each month and give you updates along the way.


 

Earnings Roundup:

Of the 442 companies in the S&P 500 that have reported earnings to date , 72% have reported earnings above estimates. This percentage is slightly below the average of 73% recorded over the past four years. In terms of revenue, 65% of companies have reported sales above estimates. This percentage is well above the average of 59% recorded over the past four years. In aggregate, companies are reporting earnings that are 3.4% above the mean EPS estimate. This percentage is below the average of 5.8% over the past four years.

The blended earnings growth rate for the S&P 500 for Q4 2013 is 8.5% this week, above last week’s growth rate of 8.3%. Upside earnings surprises reported by companies in the Consumer Discretionary, Information Technology, and Utilities sectors were mainly responsible for the increase in the overall earnings growth rate this week. On December 31, the Q4 earnings growth rate for the index was 6.3%. Nine of the ten sectors have witnessed an increase in earnings growth rates since that date, led by the Materials sector.

At the sector level, eight of the ten sectors are reporting a year-over-year increase in earnings for the quarter, led by the Financials (25.2%), Materials (24.7%), Telecom Services (19.3%), and Industrials (17.0%) sectors. The Energy sector has the lowest earnings growth rate (-9.7%). The blended revenue growth rate for the index for Q4 is 0.8%, above the growth rate of 0.3% on December 31.

Corporations and analysts are lowering earnings expectations for Q1 2014. In terms of preannouncements, 75 companies have issued negative EPS guidance for Q1 2014, while 17 companies have issued positive EPS guidance. Analysts have taken down EPS estimates also, as the estimated earnings growth rate for Q1 2014 has dropped to 0.9% today from an expectation of 4.3% on December 31.

The current 12-month forward P/E ratio is 15.2. This P/E ratio is based on Thursday’s closing price of 1839.78 and forward 12-month EPS estimate of $121.41. The current P/E ratio of 15.2 is above the prior 5-year average forward 12-month P/E ratio of 13.1, and above the prior 10-year average forward 12-month P/E ratio of 13.9.


 

Comments from Q1 Earnings Conference Calls:

Monsanto: CFO Brett Begemann: “The reality is corn demand continues to grow around the world and we don’t see anything that’s changing our expectation with that overall demand growth. Sure, we’ve seen the acres pull back a little bit in South America. There’s some discussion about where they’re going to be in the U.S. this coming year and what that means for Eastern Europe. But at the end of the day, global demand is continuing to grow for corn. We have to figure out how we can increase the productivity of corn and acres are going to be a component of that. That’s going to be a variable every year. And rather than trying to guess acres every year, we’re focused on the big demand for corn, how do we increase productivity, and we’ll use those tools on whatever acres get planted each year because our profitability is going to come out of increasing the productivity and bringing new technologies and tools and suites of tools to the farmer.”

Starbucks: CFO Troy Alstead:   “Our 5% global comparable store sales growth was the largest driver and particularly encouraging is the strength of sales growth around the world. In fact, this was the first quarter since Q4 of 2010 that all regions posted comp growth of 5% or better. And traffic continues to fuel that comp growth, growing 4% in the quarter with a 1% contribution from average ticket.”

Panera Bread: CEO Ronald Shaich: “In October, company comps were up 1.9% adjusting for the shift in the Thanksgiving holiday. In November, we registered comp growth of 3.7%. I must tell you, I remember feeling pretty good around Thanksgiving. But then in December, we saw our comps drop to negative 0.4% and this rollercoaster ride extended into 2014. January and the early part of February were characterized by days of comp growth generally consistent with Q4, interspersed with days with dramatic, negative comps as bad weather rolled through. In fact, seven of the 48 days in Q1 to date had comps of negative 10% or greater. Okay. So, here’s what we think is going on. A disproportionate number of Panera cafes are in the Midwest and the Mid-Atlantic-Northeast corridor that was hit with the worst weather these past 10 weeks. For Q4, we estimated that the inclement weather had a roughly 50 basis points to 70 basis points negative impact on our comps, which translates into $0.03 to a $0.04 impact on our earnings per share. In the first quarter, for the first 48 days, the impact has been more severe and we estimate the impact on our transaction growth in comps has been approximately 250 basis points to 300 basis points, which in turn, we estimate will reduce EPS by $0.07 to $0.09 per share.”

Walmart:  International CEO David Cheesewright: “Looking ahead for the International segment as a whole, we expect global macroeconomic conditions to remain challenging, but are seeing some green shoots of economic recovery in various markets. For example, the economic outlook in the U.K. is improving, the outlook for China appears to be stable, and inflation should help a few markets.”

Deere:  Susan Karlix: “The economy continues slowly moving forward and there are positive signs in the market. Construction employment numbers are rising. Housing starts are ramping up. Home sales and prices are improving and home inventories are low. Some markets are seeing building lot shortages. Landscaping activity is picking up and financing for land developers is slowly recovering. Additionally, we continue to see a strong domestic energy sector. North American forestry markets are expected to be up about 5%, while Europe and Russia are expected to improve from the depressed levels of 2013.  John Deere has entered 2014 at a strong pace. Even in the face of lower demand for large farm machinery, we believe the company is well positioned to deliver solid performance and have another good year.”

Goldman Sachs: CFO Harvey Schwartz: “Political risk and uncertainty were constant during the year, starting with the Italian elections in the first quarter, continued unrest in the Middle East and the 16-day U.S. government shutdown. This created an environment that required clients to constantly reassess their outlook for the global economy. For example, what are the implications of central bank activity on the global economy, individual regional economies, and specific industry sectors? What are the pushes and pulls associated with monetary policy versus fiscal policy? Are rising rates and tapering a headwind for the U.S. economic recovery, or a return to a more traditional supply and demand-driven economy? Not surprisingly, our clients’ activity fluctuated over the course of the year as they were constantly digesting new information. When you boil it all down, the 2013 environment, it’s just one where the world took two steps forward followed by one step back, a dynamic that you could see reflected in both price movements in the markets and client activity. To sum it up, while we wouldn’t characterize the last two years as a normal cyclical environment, it shouldn’t be lost on us that the long-term trend is slowly and steadily improving.”

Bank of America: CFO Bruce Thompson: “Capital liquidity has never been stronger. On the revenue side, customer activity drove stronger core business results. Our Consumer Banking saw modest improvement on card income and service charges after troughing in early 2013. Our Global Wealth & Investment Management business had a record year. Our Global Banking had a record year as well with higher Investment Banking fees and stronger lending activity, and our Global Markets business is performing well against the market opportunities that they’re seeing.”

Halliburton: CEO David Lesar:  “Eastern Hemisphere revenue grew a remarkable 17% with profit growth of 23%. That, coupled with a solid year in North America, resulted in a record year for the company with revenue totaling $29.4 billion. We also set new revenue records this year in all of our international regions and in both of our divisions. From an operating income perspective, we achieved new full year records in our Middle East/Asia region and in six of our 13 product lines. Based on customer surveys and some discussions with customers, we see total customer drilling and completion spending increasing by the mid to upper-single digit percentages, with higher spending percentage increases in the Eastern Hemisphere and a bit lower in North America. However, from a Halliburton revenue standpoint, we believe we will outpace the market rate of spending increases in both the Eastern Hemisphere and North America, and revenue growth for the full year could approach double digits. In the Eastern Hemisphere for 2014, we anticipate customer spending to be largely driven by our NOC customers. With the contracts we have in hand, we are planning on low-double digit revenue growth for the hemisphere, led by Saudi Arabia, Iraq, China and Australia in our Middle East and Asia businesses; and by Russia and Angola in our Europe/Africa/CIS region. We also anticipate 2014 Eastern Hemisphere margins should take a step higher quarter-over-quarter when compared to 2013, approaching 20% by year-end and averaging in the upper-teens for the year.”

Exxon: David Rosenthal: “Margins in the U.S., remain healthy, demand picked-up a little bit. Export opportunities are also very attractive and we’re maximizing all of that. On the other side of the planet, margins continue to be quite weak in the Asia-Pacific area. You know, we did have some capacity come on last year and it’s typical in our business that there’s never a perfect match between capacity additions and demand growth. Demand growth tends to be out there for a while and then people put on the facilities and they tend to come on in chunks and for a while, you’ll have supply outstripping demand and we’ve seen that in a number of areas, a number of products, particularly in Asia-Pac area. Those have a tendency to balance themselves out over time. We are also seeing some demand pick-up in China and the rest of the Asia-Pac area and that is helpful. In the specialties business, we have seen some weakness there, particularly in Europe, both from the economic situation there, as well additional industry capacity that’s come on. I’d characterize it as kind of normal cyclical business for the chemical industry. Across many years, you’ve got the U.S. at kind of top of cycle business conditions today and Europe and Asia-Pacific kind of at bottom of cycle.”

Chevron: CEO James Watson: “One of the challenges we’ve had the last couple of years is getting our high impact wells drilled. We’ve got a great queue, but we – frankly in the Gulf of Mexico, we’ve been drilling so many development wells that we got to queue that’s built up there and so we’re looking forward to, I think, we’ve got 14 or so high impact wells which we define as 100 million barrel or more prospects and we look forward to getting them drilled here over the next few years. But a little over $3 billion is the target for the year.

 

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