END OF THE TUNNEL – New Market Realities Await Us



As the first quarter results of this year pour in, we can take a look at the preliminary impact of the initial phase of great lockdown caused by the pandemic.

Although the first-quarter corporate results have had a small impact from the coronavirus in March, after less than ten percent of the companies in the U.S. S&P 500 present results, we can measure already a -14.5% (actual plus estimates) dropped in earnings against last year in this quarter. The estimated revenue growth for the first quarter remains positive +0.6% (actual plus estimates) so far.

Leading the way the financial institutions have shown the hardest hit, as they must anticipate the future losses of loans, they increase their reserves against losses to cover these future impacts. These additional reserves are discounted from their earnings.

In the second, third, and fourth quarter of 2020, the earnings estimates for the S&P 500 up to this date are of -26.6%, -13.3%, and -4.8% vs. last year quarters. Of course, over time, these estimates will change as we know more about the actual results.

So why if the earnings estimates are such weak financial markets have recovered so fast? Are current stock market prices over or underestimating the results?

So far this year, the S&P 500 is -12% down. Since March 23rd, the index has recovered +25% from its lowest point, an impressive rally. If we look closer to this performance, we can notice that the technology titans who have to lead the last ten years are also responsible for this recent recovery. The weakest part of the market, the small caps companies are still -30% this year.

We can extrapolate this same logic to the private small and medium companies. They are the ones suffering the bulk of the pandemic impact. As much as the government policies have offered them extraordinary financial support, it is not enough, as we can evidence in the unemployment rate, which might reach 14% or 22 million people out of their jobs.

Regarding the market price of stocks, the valuations look elevated, considering the expected results for the companies earnings. But recent plans to dismantle the lockdown and some new promising health treatments for this condition have added fuel to the hope that the worst is over. I can not blame them, and I can understand their happiness; it is a bright light at the end of a dark tunnel.

Whether or not current prices are justified will be quickly calibrated, life and economy realities will be measure against asset prices.

The new reality on the other side of this dark tunnel will be quite different from today's, my guess it is that innovation will thrive. We must expect more changes in our way, and there is no other alternative.