Key Earnings Reports Not Enough to Buoy Markets

The Dow and S&P 500 opened lower this morning, reversing yesterday’s gains. Traders are reacting to earnings announcements as well as China’s Covid shutdown. Oil and gold are trading modestly higher. The bond market is mirroring the stock market. Yields are pushing higher again in anticipation of interest rate hikes by the Fed. In fact, bond traders are beginning to build in the expectation for a .75% Fed rate hike in June.

The US economy—as measured by gross domestic product (GDP)—unexpectedly contracted during the first quarter of 2022. Economic activity shrank 1.4% from the prior quarter (annualized). While consumer spending growth accelerated to 2.7% from 2.5%, and business investment surged 9.2%, imported goods far exceeded exports and this widening of the trade deficit caused GDP to go negative. In addition, business inventory accumulation slowed somewhat. So quoting Bloomberg News, “The report is more an illustration of how GDP calculations tend to be volatile from quarter to quarter, not necessarily indicating weakness in the economy or a sign of recession.” As evidence, first quarter GDP actually grew 3.6% compared with the year-ago quarter.

This GDP report reminds us that economic data can get kooky and even misleading during periods of geopolitical or economic stress. Knock-on effects from freak events like the Russia/Ukraine war and China’s draconian Covid shutdowns can really cloud the outlook and temporarily mask the true health of the economy. We’re seeing a similar phenomenon with companies currently reporting first quarter results. The Covid crisis produced an explosion of demand for everything from toilet paper to broadband to laptops. And now in Covid’s aftermath that demand is moderating to more normal levels. At the same time, consumers are clearly shifting spending patterns from goods to services (think fewer autos & appliances, and more travel). Finally, the external shocks listed above (Russia, China) are making it more difficult for these companies to fix snarled supply chains. That said, it’s a wonder US companies are managing to post mostly positive results.

Yesterday afternoon Apple (AAPL) reported first quarter results that far surpassed Wall Street expectations. Both sales & profit growth slowed to 9%, but investors worried it would be much worse given supply constraints and rising costs. Revenue from iPhones grew 5.5% , iPads fell 2%, Mac computers surged 15%, and services revenue rose 17%. The company’s gross profit margin (43.7%) was a bit better than anticipated. Flush with cash, management put aside another $90bil to buy back stock shares. Reacting to the announcement, Wedbush analyst Dan Ives said, “Despite all the haters…[they] just keep putting up numbers. Much better than anyone expected.” If only the story ended there. During the subsequent conference call, CEO Tim Cook estimated that ongoing shortages will reduce this quarter’s sales by $4-8bil. That’s only about 4-8% of total sales, but still fairly significant. The stock is down 1% this morning.

Amazon (AMZN) posted quarterly revenue that met expectations (up 7% from the year-ago quarter), but slowed significantly from last year’s trend. And management said it expects that growth rate to slow to a range of 3-7% this quarter. It seems plausible that the company is a victim of the Covid hangover I explained above. And outside of normal online retail, results in cloud services and advertising were very good. The stock is down 12% today.

A report from the Bureau of Labor Statistics revealed that both consumer incomes and spending were stronger than expected in March. Prior month numbers were revised higher as well. Spending is clearly shifting from household goods to experiences like vacationing & dining out. The report’s inflation gauge—a favorite of the Federal Reserve—accelerated to 6.6% from 6.3%. But excluding food & energy, so-called “core” inflation actually dropped to 5.2% from 5.3%. Prices for durable goods (i.e. autos & auto parts, appliances) are now falling.