Chinese Worries and Oil Prices Continue to Create Uncertainty

Global equity prices took another hit this week as concerns stemming from lower oil prices and China’s ability to stabilize their financial markets has created a “risk-off” environment thus far in 2016. The long-term implications that these events will have on global growth are nearly impossible to quantify and that unknown is what has caused all of this volatility to start off the year. Fear of the unknown has always caused markets to drop somewhat indiscriminately in the short run, but in the long run the market is priced based on fundamentals. Corporate earnings and global macroeconomic indicators will always be a better barometer for financial market performance in the long run, but unfortunately we will have to stomach these volatile swings in the market when uncertainty arises.

We are not seeing any macroeconomic indicators that suggest the U.S. economy is losing footing and most of the indicators still suggest that the economic momentum is still intact. The jobs numbers from December looked very healthy and overall the manufacturing data and consumer spending data still look strong. Globally, we expect continued economic progress out of Europe and Japan as their monetary policy is expected to stay accommodative. We expect continued volatility out of China as they work through their transitory issues, but overall we do not expect them to experience a “hand-landing” and enter a recessionary environment.

Financial markets are looking for some news to trade on and corporate earnings should be that catalyst over the coming weeks. We had a few earnings released this week as highlighted below, but next week will be a better barometer as multiple companies are expected to report earnings.

Earnings Recap:

This week saw several companies report last quarter’s earnings. Overall, only 6% of companies in the S&P 500 have reported earnings so far this year. Of those companies that have reported, 78% have exceeded the mean analyst EPS estimate and 47% have exceeded revenue estimates. Still, with such a small number of companies reporting earnings thus far, the market has been focusing on external factors. As we get more into earnings season over the next few weeks, we anticipate corporate earnings being a driving force of the market. A few companies that reported this week were:

Intel (INTC) stated its fourth quarter earnings fell 1% amid continued weakness in the personal computer (PC) marketplace. A few reasons PC sales fell are the slowing Chinese economy and the strong U.S. dollar. A strong U.S. dollar makes computers more expensive in Europe and Japan, making them less desirable. Also, the continued global shift to smartphones and other devices held back sales once again. Overall, the company earned $0.74 per share last quarter, ahead of the $0.63 that analysts were expecting. Intel also anticipates improving demand in 2016 due to a new family of chips and increased PC sales due to Microsoft’s Windows 10 operating system.

Citigroup (C) reported its largest profit in 9 years on low legal costs and reduced expenses. In 2015, Citigroup earned a total of $17.2 billion in profits. Overall for the fourth quarter, earnings were $1.06 per share, higher than the average analyst estimate of $1.05. The company plans to continue cutting costs, which translates to reducing branches and employees. In 2015, the bank cut about 10,000 jobs and 135 branches. The shares of Citigroup fell as investors worried a bit about Citigroup’s international holdings, which is high when compared to its U.S. competitors.

According to FactSet, analysts have lowered their expectations for the most recent quarter. A week ago corporate earnings were expected to contract 5.3% in the fourth quarter. However, now the expectation is for a contraction of 5.7%. Most of this is due to the failing oil prices and a higher U.S. dollar. This seems like a relatively large shift in the expectation for earnings that are already decided (though not yet released). As you see in the chart below, companies (historically) tend to outperform analyst estimates, and therefore a 5.7% decline in earnings seems unlikely. FactSet estimates that the decline will be closer to 1.9% based on historical data applied to the current expectations. While still a year-over-year decline (assuming the 1.9% decline is correct), it shows the fears currently in the market are likely overblown. This could lead to additional upside over the next few weeks when the majority of companies are scheduled to report earnings.

A few companies scheduled to report earnings next week are: Bank of America (BAC), IBM (IBM), Goldman Sachs (GS), Kinder Morgan (KMI), Starbucks (SBUX), Verizon (VZ), and General Electric (GE).

Quarterly Reports Out Next Week:

We are finalizing the quarterly reports and should have this done early next week. Our semi-annual newsletter Paradigm Insights will accompany the reports. If you have been trained on our Secure Client Vault, this will all be uploaded there. If you have not, or have told us you want to receive the mailing, these will be mailed next week.

Paradigm Office Open Monday:

On Monday, the U.S. equity and bond markets are closed in observance of Martin Luther King Jr. Day. Banks and post offices will also be closed. The Paradigm office will be open normal hours on Monday.


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