It’s earnings season! Who’s excited?
Goldman, for one.
Last Friday, the bank suggested that it might be best to simply ignore Q4 earnings and focus on the outlook given distortions from the tax bill. “The Tax Cuts and Jobs Act was signed by President Trump on December 22, 2017 [and] as a result, companies are likely to take certain charges this quarter and the noisy 4Q results will muddy underlying company fundamentals,” Goldman wrote last week, adding that “many analysts may exclude these one-time charges from adjusted EPS [but] for companies only reporting GAAP EPS, the headline impact could be substantial.”
So you can take that for what it’s worth or for what it isn’t worth. As a reminder, consensus calls for S&P y/y EPS growth of 10% in Q4 – that’s up from 7% in Q3 and serves to support the narrative that the increasingly unhinged equity rally isn’t … well … isn’t entirely unhinged.
One thing to note when you think about whether earnings growth and the ongoing “recovery” (which, you’re reminded, is weak by historical standards) justifies the rally is that analysts are running out of ways to couch this in fundamental terms.
“Even if you were the bullest of the bulls, this crazy rally start to the year took you off guard,” Michael Antonelli, an institutional equity sales trader and managing director at Baird told Bloomberg on Friday. “We’ve completely run out of ways to describe what’s happening. We get asked a lot, are you seeing anything different that could explain the rally? The answer is no.”
Right. But not really. The “answer” is that investors have succumb to an acute case of FOMO that’s clouding their judgement and blinding them to the self-evident fact that the more you pay now, the lower your returns are likely to be going forward unless you’re willing to entertain the fantasy that this can go on in perpetuity.
In any event, circling back to Goldman and earnings season, the bank has a new note out that flags a couple of interesting dynamics that are worth mentioning.
For one thing, notable moves in stocks are increasingly occurring around earnings versus non-earnings days. Here’s Goldman:
Volumes and volatility have become more concentrated around earnings events over the past two decades. The average US stock has moved 4.3 times as much on an earnings day vs. a non-earnings day in 2017. The charts below show this ratio has increased over the past 20 years.
One certainly wonders if what you see in the right pane there isn’t in some way connected to persistently suppressed equity vol.
Additionally, Goldman notes that the short squeeze we’ve seen since October could mean that heavily shorted names are more vulnerable (i.e. have further to fall) if their results prove that there was a reason people were short in the first place. To wit:
Over the past two months, the top 50 stocks with the highest short-interest relative to float have been up 13% on average while the remaining 450 stocks have been up 6% on average. We find a similar squeeze when analyzing low free cash flow companies over the past two months. We believe this illustrates the difficulty of holding fundamental shorts in recent months as a rising tide has lifted most boats. These stocks may have unusually asymmetric downside this quarter if earnings reveal that fundamentally they remain challenged.
So there’s some food for thought as you head into the weekend and craft your strategy for the new week.