Cisco Beats Earnings Estimates
Earnings season is winding down, but there are still a few more reports left. Next week the retailers such as Wal-Mart report results. It will be a story of the ‘haves’ and the ‘have nots.’ Most retailers will be in terrible shape, but the retailers that sell necessities probably did very well.
So far, 449 S&P 500 firms have reported results. 65% have beaten EPS estimates on -9.71% non-GAAP growth. 57% have beaten sales estimates on 1.37% growth. Obviously, the results will be worse in Q2. However, the silver lining will be that guidance should improve. A few more firms will give guidance next quarter. Clarity is a positive.
In the midst of this mini correction, Cisco reported earnings on Wednesday evening. The firm reported 79 cents of EPS which beat estimates by 10 cents. Revenues were $11.98 billion which beat estimates for $11.7 billion. Revenues fell 8%, which is solid in this environment. Their stock popped 2.34% after hours because of this report. Infrastructure Platforms revenue fell 15% to $6.43 billion which missed estimates for $400 million.
Cisco provided decent guidance as it expects between 72 cents and 74 cents of EPS which beat estimates for 69 cents. The firm expects an 8.5% to 11.5% decline in sales which beat estimates for a 12% decline. The fact that the company could provide guidance is impressive.
Usually, when firms give guidance, the estimates aren’t bad. That’s because there’s a correlation between knowing where your sales will be and them outperforming. Companies in free fall don’t have visibility.
America Is Expensive
U.S. tech stocks are taking over the world and American markets trade at a premium. A lot of global markets now rely on U.S. tech. Nasdaq is larger than the entire global stock market excluding America. To be clear, these companies dominate the world outside of China (many such as Facebook aren’t allowed in China). Just because they are all located in America doesn’t mean they can’t become extremely large.
In line with their heightened valuations, which are due to their strong growth and wide moats, the chart below shows tech stocks have made it so that the U.S. trades at a 45% premium to the rest of the world on a PE basis. That’s higher than during the financial crisis when there was a flight to safety to U.S. markets.
This chart doesn’t mean you should sell U.S. stocks. PE multiples can’t be used as a comparison tool to companies in different sectors. You wouldn’t say Alphabet is cheap because it has a higher PE multiple than BP.
It sounds like this is explaining away expensive prices. But the reality is the big U.S. tech stocks, especially the cloud firms, have better businesses than most firms especially in energy and banking. Microsoft is a better business than US Bank. That’s subjective in a way. But it also isn’t if you look at their growth rates and profit margins.
Wise traders said in early April that if you think the stock market will hit a new low, you must think Microsoft and Amazon will crater. Similarly, if you think American markets will underperform, big tech stocks must do worse. It’s possible that if energy stocks explode over the next few months, America will underperform. Plus, America’s PE multiple would fall even if its market rallied. This is the power of composition effects.
6 Risks
Goldman Sachs released a list of 6 risks the stock market faces, the screenshot below shows. Let’s review them. First risk is the US infection rates outside of New York grow. New York is certainly in better shape as it only had 2,193 new cases on May 13th and 115 deaths. Number of active cases is clearly peaking. There were 1,504 new cases on May 12th which was the lowest since March 18th.
New York is still mostly closed even though the virus has calmed down. This situation isn’t terrible in Massachusetts as new cases have been stable/declining slightly for weeks. In Texas, COVID-19 is getting worse but it’s not terrible. There were 1,636 new cases on May 13th which was the most ever. Most states are reopening partially which will let us know if this risk is serious.
2nd risk is a restart will take time. This is obvious. That’s why we can expect stocks to fall as the announcements of re-openings come out. That’s because the results aren’t that good. You have high unemployment and people afraid to go out. This will be closer to a normal recession versus a complete shutdown. That’s still not good.
3rd risk is bank losses were $46 billion in Q1. The banking system will be supported by the Fed. That being said, it’s a bad signal that consumers and firms aren’t paying their debts. S&P 500 financial sector is only up 17% from the bottom.
4th risk is dividends fall 23%. That’s obviously true, but it's unliklely that it will push stocks lower. Most of the cuts have already been made.
5th risk is the presidential election. Certain polls show there is a 48.6% chance Donald Trump wins and a 42.7% chance Joe Biden wins. No one seems focused on the election which might why we have no clue who will win.
6th risk is a rekindling of the trade war with China. Whether Trump or Biden win, there will be a shift towards being tough on China.
Conclusion
Earnings season is almost done which means COVID-19 and the reopening will be the only focus the market has. The market is on the verge of having another few weeks where it doesn’t do much. We are in a wait and see mode.
We reviewed the 6 biggest risks the market faces. Everyone knows the biggest risks are a 2nd wave of COVID-19 cases and the re-openings not going as well as expected. We have no clue if a 2nd wave is coming. But what we do know is that the economic data is improving, but is still very weak.