Welcome to RBC’s Markets in Motion podcast recorded February 14th, 2022. I’m Lori Calvasina, Head of US Equity Strategy at RBC Capital Markets. Please listen to the end of this podcast for important disclaimers. This week in the podcast, we run through our latest thoughts on earnings, sentiment, trends in high frequency indicators, and Russia.
Five big things you need to know: First, with 4Q21 reporting season starting to wind down, the earnings outlook remains stable. Second, in terms of the rate of upward EPS estimate revisions, Value and Cyclicals continue to outshine Defensives and Secular Growth. Third, retail investor sentiment has started to stabilize on the AAII survey and positioning in Nasdaq and Russell 2000 futures also suggests both Growth and Small Caps are oversold. Fourth, high frequency indicators are still recovering for the most part, casting doubt on recession fears. And fifth, while we continue believe the Fed is mostly priced in to the S&P 500, a Russian invasion of Ukraine may not be and currently presents one of the key risks to the stock market.
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Now, the details.
- Takeaway #1: With 4Q21 reporting season starting to wind down, the earnings outlook remains stable.
- This is a theme we’ve been talking about for the past few weeks.
- There’s been no change in bottom up 2021, 2022, or 2023 EPS forecasts over the past week and they’re all up a little since mid-January.
- Additionally, the rate of upward EPS estimate revisions – a key gauge of forward looking earnings sentiment - for the S&P 500 is still in slightly positive territory at 56%.
- And the percent of companies trading down meaningfully post results continues to ease – meaning stocks are reacting better to their prints.
- Takeaway #2: In terms of the rate of upward EPS estimate revisions, which again is a way to look at forward looking earnings sentiment, Value and Cyclicals continue to outshine Defensives and Secular Growth.
- Value looks better than Growth on the rate of upward EPS revisions.
- Cyclical sectors also look better than Secular Growth and Defensive oriented sectors on this metric.
- Looking by individual sector, what’s also really interesting is that there’s a clear bifurcation within the broader TIMT complex – Communication Services – which contains internet – remains the weakest sector on the rate of upward revisions while classic Tech – semis, services, hardware and software – is near the top of the rankings lagging behind only Energy, Financials, and REITs.
- Takeaway #3: Retail investor sentiment has started to stabilize on the AAII survey and positioning in Nasdaq and Russell 2000 futures also suggests both Growth and Small Caps are oversold.
- Recently, we’ve been highlighting how net bulls on the AAII survey fell to -29.8% on January 27th, the same day the S&P 500 saw its YTD lows. That’s important because it was in line with pandemic lows, and when this indicator is below -10% on a 4 week average it’s been a very strong contrarian buy signal for the S&P 500. The market tends to rise about 86% of the time over the next 12 months, with an average gain of 15%. We’re still in buy territory, with last week’s reading coming in at -11% in favor of the bears. This has happened as bears have started to retreat, though we’ve yet to see the bulls really pick up.
- I think that’s important context for Friday’s Consumer Sentiment report from the University of Michigan. Headline sentiment fell back to levels in line with lows that we’ve seen in the middle of some past recessions. Additionally, views on buying conditions for large household items, a proxy for inflation and supply chain fears and frustrations, came in at the lowest level we’ve seen in 40 years.
- These two data points, along with our work showing that we achieved the average P/E contraction that we tend to see in Fed hiking cycles on January 27th, are all suggesting to us that we’ve seen peak Fed fear in the equity market. That idea of peak fear on Fed hawkishness is also something our Rates Strategy team highlighted on Friday when talk of an emergency hike was percolating.
- I think we’re also essentially back to oversold conditions on the Growth trade and the Small Cap trade as well.
- According to Friday’s CFTC release, positioning in Nasdaq contracts as of last Tuesday was on the cusp of net short territory and very close to the lows of March 2020, March 2021, and May 2021 (though still above the lows of 2010 and early/late 2018).
- Meanwhile, Russell 2000 futures positioning has actually entered net short territory. While it isn’t back to 2008, 2011, or 2016 lows yet, it is starting to approach 2019 and 2020 lows.
- Takeaway #4: High frequency indicators are still recovering for the most part, casting doubt on recession fears.
- The recovery from the Omicron wave seems to be well underway, with improvements in dining and flying and back to work.
- Redbook same store sales have eased a bit, but again, descriptions of consumer demand seem mostly healthy based on what we’re reading in earnings call transcripts. This softness, alongside the pick up in flying and dining, may speak more to the bumpy handoff from goods to services that our economics has been highlighting.
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- Takeaway #5: While we continue believe the Fed is mostly priced in to the S&P 500, a Russian invasion of Ukraine may not be and currently presents one of the key risks to the stock market.
- I recently spent some time talking to Helima Croft, RBC’s commodity strategist who specializes in the geopolitics of oil, about good historical reference points for the Russia/Ukraine conflict, and there just aren’t any.
- But we have found it interesting that stock market declines around the two Iraq Wars were similar to the kinds of drops we see around recessions (33%, the 2nd Iraq War) and growth scares (19%, the 1st Iraq War).
- We continue to think that the Jan 27th lows have a good chance of holding, assuming recession is avoided.
- But if we are wrong and Russia and Ukraine turn out to be the catalyst for further downside, a growth scare (15-20% drop from the YTD high, similar to what we’ve seen numerous times in the post GFC era) is probably the right way to gauge potential downside risk. We’ve been increasingly thinking about the Russia Ukraine conflict as something that has the potential to become similar in nature to the China trade war that sparked growth concerns in late 2018 and took the S&P 500 down nearly 20%. That’s not our base case, but is a risk we think worth exploring.
That’s all for now. Thanks for listening. And be sure to check out our sister podcast, RBC’s industries in motion, for thoughts on specific sectors from RBC’s team of industry analysts.