Earnings season may turn up some stock market winners after December’s battering

After a 10 percent rebound off the Christmas Eve low, the S&P 500 is bumping up against a major area of resistance at 2,600 as earnings season begins. The S&P 500 was trading slightly lower at around 2,590 on Friday afternoon.

“In our view the bulk of the decline is clearly behind us,” said Julian Emanuel, chief equity and derivatives strategist at BTIG. Earnings could boost the overall market, but there are also geopolitical and other factors that could affect stocks. “It wouldn’t be a shock given the stiff resistance around 2,600 that it could pull back a ways.”

Emanuel said he switched last week from a posture of buying on the dips to buying the market. “We are not in a bull market fully yet. We are in a transition stage. You switched from both bad news and good news being sold in the last quarter to good news being bought, but if you’re really in a bull market, both good news and bad news is going to be bought.”

The market is expected to remain volatile, and could be choppy during earnings season because its surge higher was so sharp and swift.

“We thought earnings season would still be a net beat but with more mixed results,” said Keith Parker, chief equity strategist at UBS. “The key will be about 2019 guidance and what we’ve seen thus far is revisions to 2019 a bit more than the post-crisis average. … The big bar reset typically happens during the first quarter, during fourth quarter reporting. We already saw expectations drop down a lot.”

Analysts expect that most of the bad news is out on earnings, but if the results and comments are worse than expected, the market could easily retest its lows. On the other hand, if earnings are better than expected, they could act as a positive force to help fend off further declines, strategists said.

“Our view is we’ll probably have more mixed results and guidance going into the quarter, but it does raise the likelihood of relief rallies, given where positions and expectations are,” Parker said. He said health care could be a positive.

“Health care has positive revision trends. We think they have a better earnings, sales backdrop,” he said, noting that in consumer discretionary, lodging and restaurants stand out.

Earnings are expected to be strong, up 14.7 percent in the fourth quarter, but the fourth quarter is a transition period. Corporate executives could find themselves showing off double-digit profit growth, while discussing the activity in the current quarter, which is expected to see much slower profit growth. First-quarter earnings are expected to be up around 3.9 percent, according to Refinitiv. Earnings in 2018 were up about 23.5 percent, but 2019 gains are expected to average just under 7 percent for the year.

BTIG’s Emanuel said the market may be ready to reward positive news, and the biggest winners could be those that beat expectations for revenue and profit. Emanuel said in the last two earnings seasons, many companies that beat were hardly rewarded while those that missed on both profit and revenue fell an average 3.2 percent in the July period and 5 percent in October’s reporting season.

Source: BTIG

“Estimates have come down quite sharply for the quarter and the year. It’s a mixed bag in that you’ve seen a raft of pre-announcements. You’ve seen positive reactions, negative reactions. The positive reactions have been skewed toward more cyclical companies. You’ve seen the worst reactions for some of the most defensive names,” he said.

In order to find possible earnings winners, BTIG analysts screened for companies that were down 20 percent from their 52-week highs, but in the past two years had beaten on earnings and revenue and their stocks were rewarded.

Among those names were Morgan Stanley, which reports Thursday, Ralph Lauren, LAM Research, Akamai and Northrop Grumman.

BTIG said vulnerable names could be those that haven’t declined that much but that have missed on earnings in the past. The firm’s analysts screened for stocks which have disappointed on both earnings and revenue during two or more quarters since the first quarter of 2017 and have declined less than 10 percent from their year highs.

On that list are Walt Disney, Hershey, American Water Works, American Electric Power, AutoZone, Duke Energy, Ameren, Ecolab, NextEra Energy, Varian Medical Systems, First Energy and TransDigm.

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