Market Commentary Final Q corporate results confirm strength and show improvement since our mid- February update

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1 Market Commentary Final Q corporate results confirm strength and show improvement since our mid- February update The US Q4 reporting season has finally concluded (500 firms reported). Compared to our last update when 346 companies reported, the final numbers show even some improvement: The yearly earnings growth has indeed increased from 5.1% at that time to the current 6.3% and the sales one from 4.4% to 4.8% yoy. For the Stoxx 600 and the Euro Stoxx indices, the recent trend is similarly constructive. For Japan, the earnings growth is even better than for Europe or the US but the sales one remained hostage of a strong yen, something which should improve starting from the next season. 1

2 Globally speaking, the most striking positive factor concerns the reported sales in the euro area (EA) as well as in Europe. Here, the ratio of positive surprises (versus analysts expectations) on total surprises has passed from 47% in Q3 to 65% in Q4. The median stock analysis below confirms an encouraging view, too, for the US, Japan, and the European countries (see table below). Indeed, earnings growth and surprise measures look higher if compared to the market-weighted figures and in line with Q3 numbers (no substantial progress excluding Japan but stable at a high growth level). Since our last commentary in mid-february, the earnings yearly growth has only slightly decreased in the US (from +8.8% to +8.16%), while it has improved for the Stoxx 600 (from +6.8% to 7.2%) and remained stable in the EA (+5%). Japan shows the highest earnings growth at +12.5%. The yearly sales growth for the median stock has instead improved since Q3 across all regions but in particular in Europe. Since mid-february (our last update), the sales growth figures for Q4 have also improved (by more than 1% in Europe). 2

3 This is the third season in which companies in the developed world show a yearly growth increase after the cyclical trough experienced in Q Positive results are broad based across sectors, coherently to the good economic momentum which is broadening globally (see PMI chart). As corporate confidence remains rather high since some time and it is broad based, we could expect the effects into real economy and corporate earnings to stay strong, too, at least for the current year. 3

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5 In particular, inflation data are surprising analysts expectations on the upside (mostly energy driven) and this is ultimately inducing higher nominal sales growth expectations which translates into higher nominal cash flows and earnings. In the EA, the trend of inflation surprises is even more upbeat than for the average of G10 countries (see chart) and without precedents in the last 6 years (see chart). In the US, as a result of the economic cyclical upturn, firms margins are currently recovering as final prices are outpacing production costs. This trend could last for a while, at least for this quarter (Q1) and the next. Of course, a spike in the European political risks, the negative impact of prolonged higher energy prices on consumers, and the uncertainty surrounding Mr. Trump s fiscal policy represent risks to future earnings growth. 5

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7 For the current year, analysts profit expectations remain quite bullish globally (see table). That said, given the constructive macro backdrop, the risks on the downside could be limited at this stage, i.e. they are not expected to derail investors sentiment appreciably. For the time being, our profit estimates remain prudent and below consensus but risks are on the upside. We do not exclude some upgrades in our quarterly review to be finalized soon. 7

8 As we noted last time, the consensus for the US is showing some negative revisions. Such declines could have originated from the negative analysts revisions which are common at the beginning of the year, in an environment of persisting structural low growth (pressures were mentioned by several US firms in Q4). Another explanation includes the uncertainty around Trump s policy agenda and the negative effects originating from a stronger USD. The EA and Japanese earnings cycles are relatively younger, suffering at this stage less from seasonality also thanks, among other things, to supportive monetary policies and weaker currencies. 8

9 As also testified very recently by Draghi, the financing conditions in the EA remain very supportive and together with higher profits support new investments. In the meanwhile, higher capacity utilization and more stable trade-weighted euro are promoting a higher return on equity (i.e. ROE). Underlying inflation should continue to increase albeit slowly, so that the nominal earnings growth should remain well supported in the next quarters with higher but not yet alarming bond yields and cost of capital. In sum, the Q4 reporting season indicates that the earnings rebound for remains appreciable and even stronger if compared to recent expectations. As the recovery broadened further across sectors and countries, the tail risks have also reduced and analysts optimistic growth expectations run less risks to be reduced. That said, we acknowledge that macro surprise indicators are already very high, the political risks linger and the economic growth remains structural low beyond the current cyclical upturn. In the US, for example, we expect the higher wages to weigh on margins at some point, together with a higher US dollar. Overall, the current good earnings momentum supports particularly the EA and Japan where market multiples are not far from historical average. US valuations are more expensive and sustainable only as long as real yields remain around such low levels and expectations on the President Trump s fiscal policy are upbeat. 9

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