US balance sheets: Higher inflation, interest rates and the dollar should weigh on results and growth estimates

The earnings season in the third quarter in the US should still be marked by growth in company earnings. However, projections show that gains should occur less intensively than in previous quarters.

In the period from July to September of this year, inflation in the USA remained at historically high levels and led the Federal Reserve to raise interest rates more aggressively in the economy. In the same interval, the dollar strengthened, became more valuable than the euro and almost reached parity with the pound sterling. All this must somehow be reflected in the company’s results, to a greater or lesser extent, depending on the sector in which it operates.

The market believes that the profits of companies in the S&P 500 index should rise about 2% in the third quarter of 2022. Projections of the results have suffered several downward revisions in the last few months, punishing most sectors of the Stock Exchange. If the current projection is confirmed, it will be the lowest growth rate in the last two years.

Traditionally, the season begins in earnest with quarterly bank results. JPMorgan, Morgan Stanley, Wells Fargo and Citigroup will release their data this Friday (14th). But several companies have already reported their balance sheets, and some numbers are making investors wary.

Freight FedEx reported preliminary results for its fiscal first quarter, which ended in August, well below expectations. The company’s earnings per share fell 21% in that period. Fedex was impacted by lower e-commerce purchases, with services and activities continuing to reopen after pandemic restrictions ended. The CEO of the company, however, said in an interview with a TV channel CNBCwhich is preparing for a global recession.

Also in its first fiscal year, Nike reported a 22% annual decline in net income. During that period, the company’s income even grew, but so did its expenses, and at a faster rate. The sportswear and footwear company feels the high price of oil, which increases the burden of goods. Nike ended the quarter with inventory 44% higher than last year.

“Many companies worried about supply chain bottlenecks have increased inventory because of demand that hasn’t arrived,” explains Guilherme Zanin, strategist at Avenue. Many outlets consider the results of the two companies part of the third quarter earnings season and an indicator of what other companies can deliver.

Therefore, the earnings release period begins with different signs. “Of the few companies that have published results so far, only 55% have exceeded the expected earnings, which is the lowest number since the first quarter of 2019”, highlights the analysis of Julius Baer, ​​published last Tuesday (11).

The market pays attention to the “guidelines” of companies

However, apart from the results of the quarter itself, investors will also focus on what the companies expect in the future. The earnings season begins with pessimistic forecasts in this regard. “ON directing it will be terrible,” BofA analysts wrote about the projections that companies should make in the coming weeks. The bank predicts a worsening of risks in the fourth quarter of 2022 and 2023. Julius Baer believes that expectations for the coming year are likely to be significantly reduced.

“Prices are at a peak, demand is slowing and costs are low,” the BofA analysis said. “Weakening demand indicates weaker prices and pressure on margins. Swollen inventories also pose a downside risk to margins, particularly for many retailers.”

Currently, more S&P 500 companies are revising their forecasts downward than are improving their estimates. On the other hand, companies that reviewed their directing upward, they show above-average expectations, according to FactSet, a financial data company.

This group also includes PepsiCo, which published its balance sheet yesterday (12). The company now expects organic revenue growth of 12% in 2022 – the previous forecast was a 10% increase. The new projections came after the company reported higher-than-expected earnings per share and earnings in the third quarter of 2022.

What to expect from banks in the third quarter

Listed investment banks are expected to have another weak quarter, with virtually no public offerings (IPOs) and a reduced volume of private equity issuance. “Companies don’t want to issue debt because the interest rates are higher,” says Avenue’s Zanin. “They think it is not the time to borrow, quite the opposite”.

Credit banks, according to strategists, can benefit from increased demand. After all, inflation eats away at America’s purchasing power. On the other hand, it also increases the chances of default. “The season will show whether the American economy needs more credit and whether people will be able to pay it, with rising inflation,” he says.

For Pietro Guerra, international analyst at XP, another aspect to look at in the results of these institutions is insurance. “Unlike in Brazil, banks abroad have postponed the increase in provisions and now have to live in accordance with the dynamics of inflation and higher interest rates. Provisioning levels affect earnings growth, so the outlook is less optimistic,” he says.

“Big Techs” will be the highlight of the earnings season

The last week of October is considered the most important in the swing season. That’s when the quarterly numbers of the tech giants come out: Alphabet (which owns Google), Microsoft, Meta (which owns Facebook), Apple and Amazon. Netflix will release its numbers as early as next week, before everyone else. For managers and analysts, although the technology sector tends to feel the negative impacts of high interest rates, great technicians they have robust boxes in their favor.

“Unlike technicians which need the market to finance growth, a big they have the luxury of being able to finance their own changes,” says Daniel Martins, CEO of GeoCapital. According to him, although these companies have to adjust their margins due to inflation, they have robust cash-generating businesses.

After a long period of growth that brought them to a level great technicians, these companies are working to achieve greater operational efficiency. “They’re less concerned about growth and more focused on the financial health of their balance sheets,” says Avenue’s Zanin.

In the third quarter, Alphabet is expected to drastically reduce the number of ads, and companies will have smaller advertising budgets. The goal, on the other hand, must represent one of the worst balances between technicians in the season, according to Zanin. In addition to lower ad revenue and the loss of users on other networks, such as Tik Tok, the finances of the owner of Facebook continue to be affected by the billions of dollars invested in the metaverse, the return of which is still not strong enough.

“Companies that do not generate profits will have a harder time becoming profitable in an adverse scenario,” says Pietra Guerra, from XP.

The energy sector is “exceptional”

“Excluding the oil and gas sector, which has undergone an upward revision, the earnings of S&P 500 companies would have decreased by 3.9% compared to the result in the third quarter of 2021,” said the analysis of Julius Baer. Prices from goods in the energy sector are not as high as in the second quarter of this year, but, for Pietro Guerra, there is still no talk of normalization.

For Zanin from Avenija, the performance of the energy sector should reduce the negative impact of other segments in the season, such as real estate. With a relevant weight in the gross domestic product (GDP) of the United States, the construction and sale of real estate has been affected by the high interest rates in the country. If data on inflation and employment still do not indicate a concrete slowdown in the US economy, real estate indicators already reflect a worsening scenario.

“Companies cannot hire, so they raise wages and this affects inflation. Interest rates are rising and that’s forcing money back into the United States and keeping the currency strong,” Zanin says. The more expensive dollar directly affects the 40% of S&P 500 companies that depend on foreign income.

“With a stronger dollar, the exporter loses competitiveness, because his client loses purchasing power. The sectors that are most affected by this dynamic have the highest weight of export income, namely technology and goods”, says Pietra Guerra.

In the current scenario, companies that manage to pass on cost increases to the end consumer need to step forward, regardless of the sector they are in.

“All companies suffer pressure on wages and energy costs. Some have price power because they are essential in the chain. Others do not have this profile and their ability to pass on these costs,” concludes Daniel Martins from GeoCapital.

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