The latest Q4 corporate earnings insight reveals tighter corporate net profit margin, a slowing economy, which could imply the shortest Fed tightening cycle ever.
The fly in the ointment of Q4 corporate earnings is a second consecutive decline in S&P 500 corporate profitability
The net profit margin for the S&P 500 for Q4 2021 is 12.0%, which is above the year-ago net profit 5-year average net profit margin of 11.0%. However, it is below the previous quarter net profit margin of 12.9%, according to FactSet.
Declining corporate net profitability could be an ongoing trend, particularly in an inflationary environment, high crude oil prices, the strong US dollar, and talk of Fed high rates.
During the previous earnings season, 305 S&P 500 companies cited “inflation” on earnings
calls for the third quarter, the highest number in the last ten years.
Higher input costs and lackluster consumer demand, already evident with falling consumer sentiment could weigh on future corporate revenues.
“The fly in the ointment of Q4 corporate earnings is a second consecutive decline in S&P 500 corporate profitability”
The University of Michigan fell throughout January, posting a cumulative loss of 4.8%, sinking to its lowest level since November 2011. So this forward-looking indicator is flagging red
But despite declining corporate profitability for a second consecutive quarter, the bullish news is that 75% of S&P 500 companies have positive earnings, which is based on a third of S&P 500 companies reporting results.
Information technology is the sector posting the highest profitability, according to the latest corporate earnings insight
At the sector level, five sectors are reporting a year-over-year increase in their net profit margins in Q4 2021 compared
to Q4 2020, led by the Energy (9.8% vs. NA), Industrials (7.6% vs. 4.5%), and Materials (12.9% vs. 10.2%) sectors.
“despite declining corporate profitability for a second consecutive quarter, the bullish news is that 75% of S&P 500 companies have positive earnings”
However, only two sectors are reporting a quarter-over-quarter increase in their net profit margins for Q4 2021
compared to Q3 2021: Energy (9.8% vs. 9.0%) and Information Technology (25.8% vs. 25.6%).
So the latest corporate earnings insight tells a story, the fourth revolution is underway, and these disruptive technologies continue to impact capital allocations and labor market conditions.
“The latest corporate earnings insight could be an early warning of a slowing domestic and global economy” – Win Investing
The consumer is already being squeezed, according to the latest corporate earnings insight
The latest earnings indicate caution in household sentiment reigning in discretionary spending. Moreover, this is already impacting companies offering discretionary products and services. Tighter household budgets mean less revenue and potential profits for companies offering discretionary goods and services. So corporate net earnings for discretionary spending is already 1.3 % lower than the five-year average. For example, Consumer Disc Q4 21 5.3% versus a five year average of 6.6%.
Fourth revolution technologies, the digitalization of everything, robotization, and mass automated transportation could continue to lower work participation rates and keep wages down.
The latest corporate earnings insight could be an early warning of a slowing domestic and global economy, bearing in mind these are multinational companies
Corporate profit margins under pressure, according to the latest corporate earnings insight could be a factor in the Federal Reserve slowing its ambitious tightening policy.
As more data indicates a slowing economy, perhaps the 7% core inflation has peaked.
Fears of entrenched inflation could be overblown. Fourth revolution technologies will provide a fountain of deflationary technologies. Robotization, digitalization, and autonomous vehicles will significantly lower the cost of producing goods and services and bring them to market.
So perhaps wage-price inflation of the 70s is not relevant today where advanced economies are transitioning into the fourth revolution.
Moreover, labor is less unionized and has less collective bargaining power. Many people work on contracts, autonomous workers, subcontractors. Furthermore, because work is digitalized, global competition from low-wage regions will keep wages down.
So core inflation of 7% could have peaked as supply bottlenecks work their way out of the economy, and the pandemic becomes endemic as countries remove restrictions.
“Capital with an appetite for more risk will go into growth stocks” – Win Investing
The takeaway of the latest corporate earnings insight is that Corporate earnings are already battling headwinds in a decelerating economy, higher oil price, strong USD, and potentially higher interest rates
As more economic data comes in which supports slowing economic and falling inflation the Fed is unlikely to tighten as the economy enters a recession where corporate net profits are already declining.
So a stock rally for 2022 could come when the Fed abandons tightening as it becomes apparent the economy is entering a recession. It will be the shortest Fed tightening ever, over before it even begins. The Fed did not hike and is unlikely to follow through with aggressive 4 rate hikes based on the thesis that inflation could have peaked, the economy is slowing, and corporate earnings are already under stress.
When the market realizes that fears over Fed tightening were overblown capital will flow where it sees the highest return. Conservative bond investors will gravitate towards low beta high dividend-yielding paying stocks.
Capital with an appetite for more risk will go into growth stocks.
Put simply, a stock market rally could play out in stocks in the first half of 2022 when the market realizes Fed isn’t going to tighten anytime soon. Capital flows into stocks could be significant, bearing in mind there is no alternative TINA.
The entire bond market is negative-yielding in real terms. Moreover, core inflation in the short-medium and term means cash deposits are also negative-yielding and are guaranteed to erode wealth.
With TINA and FOMO (fear of missing out) walking hand and hand, the stars could be aligning for an epic stock market rally as a wave of desperate investors seeking income and yield makes its way into stocks.
But the mother of all bears calling for a historic 80% crash could also be right. As the economy continues to slow and corporate profits decline, the sky-high stock prices will not jibe with reality.
Insiders will sell at the top, and the selling will continue into a correction, then a panic. But the Fed’s QE to the rescue package will not be enough, and the panic will morph into a historic stock market crash.