Over the past 30 days sell side analysts that cover the Energy sector have been busy cutting their earnings estimates to reflect plummeting crude prices. They’ve snipped an average 3% from their Q4 2014 numbers for the 10 largest cap names, and slashed 19% off their 2015 whole-year estimates. Common wisdom has it that these reductions should shift over to the both Consumer sectors – Staples and Discretionary – driving estimated there higher. That isn’t happening. Over the same 30 day period, the analysts that follow the largest names in these groups haven’t moved their estimates for either Q4 or 2015 by even 1%. In fact, they’ve shaded their numbers lower by 0.2-0.4%.
As ConvergEx's Nick Colas notes, if history is any guide, these missing-in-action sell-siders will only bump numbers after the companies themselves increase their outlooks. All of which makes the upcoming earnings season critical for market direction, for the old market aphorism “It’s not the number, it’s the guidance” is about to decide if the current selloff continues.
When I worked on the sell side as an auto analyst, my mentor would often remind me of his formula for career success: “Message multiplied by repetition equals franchise”. The way he figured this calculus, every analyst started with a set of unique observations; this was their message. Then, the challenge was to find as many ways as possible to repeat the message in novel and engaging formats. In his case, he made it a point to publish a long report (50 pages plus) on every company in his coverage every 18 months. He surveyed his companies’ customers every quarter and kept a running tally of their responses on the state of the business. And he was on the morning call at our firm every week, and often times much more than that.
Over the past month, the brokerage analysts that cover the energy sector clearly have been heeding my old sensei’s advice. With oil prices plummeting, they have been visibly cutting earnings expectations for their group. We pulled together a list of the 10 largest weightings in the S&P 500 – names like Exxon Mobil, Chevron, Schlumberger, Occidental, Anadarko and Halliburton – to assess the magnitude of these cuts. The names we considered represent 63% of the entire Energy weighting in the S&P 500, so this is a reasonable sample with which to consider the effect of lower oil prices on this sector’s earnings contribution to the market as a whole. Here’s what we found (table included right after this note):
Brokerage analysts have only trimmed an average 3.1% from their Q4 2014 earnings estimates for the 10 largest energy names over the past 30 days, according to Thompson Reuters.
For the 2015 calendar year, these same analysts have so far taken an average of 19.4% off their estimates versus the numbers they were publishing last month. As far as 2016, analysts have so far reduced their whole-year estimates by 11.1%.
Those 2016 estimates do seem to discount much higher energy prices than currently on offer, for the average earnings gain versus 2015 for these 10 super-cap names is all of 42.2%. The Street doesn’t seem to believe the current collapse is sustainable. Or, they haven’t gotten around to really sharpening their pencils on 2016 estimates just yet.
You are probably thinking “That’s nowhere near enough of a reduction to earnings expectations. Oil prices have been cut in half!” And yes, you are probably correct. Looking at the earnings expectations for 2015 for our 10 super-cap names, you’ll see that the analyst community expects them all to remain reasonably profitable, for example. That’s an optimistic take given than the price of oil is now half where it was six months ago. Still, it’s not just sell-side analysts that are having problems discounting the collapse in oil prices. Investors in the S&P Large Cap Energy sector are confused as well. Consider that over the last month this sector is actually still up modestly (0.19%) even though crude prices have continued to tumble. The bottom line is that it is probably too early to bottom feed on energy names – estimates need to take another leg down.
Shifting topics slightly, let’s look at the same data for the two Consumer sectors in the S&P 500 – Staples and Discretionary. Common wisdom holds that these groups will see the benefits of lower energy prices as consumers shift their spending from the pump to the mall. We did the same analysis – looking at the revisions to earnings expectations for the two consumer groups in the S&P 500 – and here is what we found:
We pulled the Thompson Reuters data for the 10 largest Consumer Discretionary names, which total 44.3% of the market cap for the group. On average, analysts have reduced their earnings expectations for these companies by 0.3% for Q4 2014 over the last month. Looking out to 2015, the last 30 days of declining oil prices have brought no net revisions to the earnings estimates published by Wall Street. None. And for 2016, analysts trimmed their bottom line numbers by 0.4% over the last 30 days.
For the Consumer Staples names, the 10 largest market cap companies total 64.1% of the group by market cap. Just as with the more cyclical Discretionary names, analysts have been reducing their earnings estimates over the last month. The numbers: a decline of 0.4% for Q4 2014 and 0.2% for whole-year 2015. Going out to 2016, analysts took 0.5% out of those numbers over the last 30 days.
Analysts in these sectors aren’t actually “Negative” – they expect 2016 earnings growth of 16.7% for the Discretionary names (excluding a very chunky bump for Amazon) and 9.6% for the Staples group. They just aren’t increasing estimates on the hopes for a better consumer.
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Since a shift in consumer spending from energy to everything else is THE bull case for U.S. stocks at the moment, the absence of any shifts in earnings expectations is disappointing. It also explains the incremental volatility in equities over the last month, or at least a good chunk of it. After all, if the story were as easy as “Lower gasoline prices = better consumer” we’d expect Consumer sector analysts to be bumping numbers higher pretty much every day. I’m not saying this won’t happen – it very well could. But we do have to explain why it hasn’t happened yet. Here are a few ideas:
Consumer analysts are typically a pretty conservative bunch. On the Staples side of the coverage universe, they are used to seeing their companies beat by a penny or two. Consensus estimates typically only have a few cents of deviation around the mean. As for the Discretionary names, analyst coverage here has seen more than their share of revenue shortfalls in the past few years. Anyone stepping out to say “XYZ Corp is going to beat by a dime in Q3 from a stronger U.S. consumer” is likely to be put in the boy-who-cried-wolf bucket. And left there to die.
There are some visible headwinds in this group that are easier to quantify. Most of these companies have significant international operations so recent dollar strength can dampen reported profits. Once you layer on European deflation and lackluster economic growth, the overseas earnings story is clearly moving in reverse at the moment. Back in the U.S., the drop in oil prices will also have an immediate effect on high-paying jobs in the U.S. long before the typical consumer spends that windfall.
The bottom line here is that it will have to be the companies themselves – not the analysts that follow them – that increase their 2015 earnings guidance. This would come during their Q4 earnings conference calls that kick off this week. If the analysts who cover these names haven’t increased estimates by now, they aren’t going to take the leap until they hear the companies themselves say the water is warm enough to dive into the deep end of the pool.
The phrase “Most important earnings season in years” is a bit of a Wall Street chestnut, but it may actually ring true in the coming weeks. If major companies in the Consumer sector do report that lower energy prices are helping their customers buy more goods and services, that would go a long a way to confirming the “Lower oil prices are good news” bull case for stocks. If they prove reluctant to go out on such a limb, then U.S. stocks will certainly see incremental volatility.
Source: Nick Colas via ConvergEx
