Rising Rates and Lackluster Earnings Could be a Drag on Stocks

(Tuesday Market Open) Equity index futures were mixed in premarket trading as investors deal with a growing list of concerns. The ongoing Russia-Ukraine war, talk of more sanctions, unimpressive earnings, hawkish Fed talk, and rising yields are all weighing on investors.  

Potential Market Movers

Ukrainian President Volodymyr Zelenskyy said that Russia is launching a new offensive in the Donbas region with the goal of capturing Ukraine’s industrial heartland. The ongoing war has European Union (EU) ministers discussing a potential sixth round of sanctions by ending all oil and gas purchases from Russia, where the EU imports roughly 40% of its gas and 25% of its oil.  

If these sanctions were to happen, oil and gas prices would likely shoot even higher. Currently, the commodity markets don’t appear to be expecting the new round of sanctions soon because oil futures were down 2.39% and natural gas futures were down 5.5% before the opening bell.

Despite some early morning selling in the commodities markets, the 10-year Treasury yield (TNX) was up 19 basis points to 2.89% before the bell. Yields continue to rise on hawkish comments from St. Louis Fed president James Bullard.

A higher overall gain in U.S. building permits was hiding significant weakness in the housing market. Building permits came in higher than expected for March but the big gainers were in multifamily units. Single-family homes were down quite a bit because buyers are having trouble qualifying for loans at higher mortgage rates. Building permits are commonly considered as a leading indicator for the housing market.

Another round of earnings reports came out before the open including Johnson & Johnson (JNJ) which topped earnings estimates but missed on revenues, causing the stock to fall about 1% in pre-market trading. JNJ also lowered its full-year earnings and sales outlook.

Lockheed Martin (LMT) beat on earnings but missed on revenues leading to a 2.45% drop ahead of the opening bell. The Russian invasion of Ukraine prompted orders for F-35 fighter jets from Germany and NATO, but LMT has struggled to use the orders to grow revenues in line with analysts’ expectations.  

Even when you win you may lose today. Halliburton (HAL) beat estimates on earnings and revenue, but was still down nearly 3% in premarket action. Travelers (TRV) also beat on earnings and revenue and raised their dividend but fell 1.9% before the opening bell.

However, J.B. Hunt Transport (JBHT) beat on top and bottom-line numbers leading to a 2.1% rally in the stock.

After Tuesday’s close, there will be more earnings reports from big names like Netflix (NFLX) and IBM (IBM).

Reviewing the Market Minutes

Stocks opened the week on a slightly lower note with the Nasdaq Composite ($COMP) and the Dow Jones Industrial Average ($DJI) dropping 0.14% and 0.11% respectively. The S&P 500 (SPX) was practically even—ticking down just 0.02%. Higher yields kept the bulls in check as the 10-year Treasury yield (TNX) rose 34 basis points to 2.862%. Rising oil futures were also a drag on stocks as WTI crude oil futures rose 1.2%.

Earnings were mixed from a few financial companies including big banks like Bank of America (BAC) and BNY Mellon (BK). BAC rallied 3.4% while BK fell 2.3%. However, the PHLX KBW Bank Index (BKX) rallied 0.90% and the Financial Select Sector Index rose 0.61%.

St. Louis Fed President James Bullard said that he thinks the markets had already priced in Fed tightening. It’s likely that Mr. Bullard was referring to the 2-year Treasury yield because it’s often seen as a proxy to the Fed interest rate policy. The 2-year rose 34 basis points on the day to 2.862%.

Mr. Bullard also said he would like to see the overnight rate go to 3.5%. He said that the Fed shouldn’t rule out a rate hike of 75 basis points in May, recalling former Fed Chairman Alan Greenspan’s similar hike in the 1990s, but he’s still advocating 50 basis points. According to the CME FedWatch Tool, the market is anticipating an 88.8% probability of a 50-basis-point hike.

The commodity markets continue to rally with corn futures rising another 2.78% and wheat futures up 2.14%. Natural gas futures jumped 6.42%. Gold futures tried to keep up with the rallies, climbing more than 1.3%, but failed to sustain its gain and closed 0.22% lower on the day.

The strong dollar continues to get stronger as the U.S. Dollar Index ($DXY) closed 0.48% higher for a new 52-week high. The dollar index is testing a level of resistance set back in 2020, which could cause some congestion. As more multinational companies report earnings, look for concern over the strong dollar hurting overseas sales. 

CHART OF THE DAY: HOLD THE LINE. The PHLX KBW Bank Index (BKX—candlesticks) appears to be holding support despite mixed earnings from the largest U.S. banks. Data Sources: ICE, S&P Dow Jones Indices. Chart source: The thinkorswim® platform. For illustrative purposes only. Past performance does not guarantee future results.

Three Things to Watch

Banking Interest: Now that the biggest U.S. banks have reported earnings, the PHLX KBW Bank Index (BKX) is still holding support around the 116 level. According to Refinitiv, the financials sector is expected to have the lowest earnings growth rate of any sector. On the bright side, the sector had the highest number of positive revisions as of last Friday.

The FactSet earnings report showed that 92% of financials that have reported earnings thus far have beat estimates. They’re second only to health care at 100%. Also, financials have the largest positive difference between actual earnings and estimated earnings too. In other words, they’re beating earnings and beating them by a wider margin. Citigroup (C), Goldman Sachs (GS), and Morgan Stanley (MS) were the best in the group.

Earned Runs: According to Refinitiv, Q1 earnings for the S&P 500 are expected to grow 6.3% year over year, but most of that is expected to come from energy stocks. As of April 14, only 34 of the S&P 500’s 500 companies have reported earnings. Of those companies, 79.4% have beat analysts’ expectations. This is above the long-term average of 66%, but below the prior four-quarter average of 83.1%. Another 69 companies from the benchmark index will report this week.

Unfortunately, the S&P 500 companies are seeing more downward revisions (56%) than upward (44%). Price performance often reflects earnings revisions, which is one reason why the S&P 500 has struggled so far in 2022.

FactSet is seeing strength in financials and consumer staples because the companies in those sectors that have reported so far have had the largest margin of beating estimates. On the other hand, consumer discretionary companies have the biggest margin of misses.

Sector Valuations: Yardeni research released its March sector performance summaries last week, finding that the following sectors had the lowest forward price-to-earnings ratios: energy (11.2), financials (13.8), materials (15.6), and health care (16.7). If investors continue to favor value stocks, these sectors could be beneficiaries.

Notable Calendar Items

April 20: Existing Home Sales and earnings from Tesla (TSLA), Procter & Gamble (PG), and Abbott Labs (ABT)  

April 21: Philadelphia Fed Manufacturing Index and earnings from Philip Morris (PM), Union Pacific (UNP), AT&T (T), and Blackstone (BX)

April 22: Earnings from Verizon (VZ), American Express (AXP), Honeywell (HON), Newmont (NEM), and Schlumberger (SLB)

April 25: Earnings from Coca-Cola (KO), and Activision Blizzard (ATVI)

April 26: Durable goods orders, CB consumer confidence, New home sales, Earnings from Visa (V), PepsiCo (PEP), United Parcel Service (UPS), and Texas Instruments (TXN)

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