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Expert Opinions

Asymmetric risks ahead of the earnings season

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Recent data releases were mostly poor, but not without a few silver linings. Our scenario on equities remains defensive.

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Asymmetric risks ahead of the earnings season
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In search of a bottom

Recent data releases were mostly poor, but not without a few silver linings. Both manufacturing and services ISM/PMIs in the US and the EMU came in below expectations for September. Fed Atlanta GDPNow estimates GDP growth at 1.8% in Q3, down from 2.9% a year ago. 

On the brighter side, the US PMI (Markit) was not so alarming (c. 51) and it appears that the track record of the PMI to predict industrial production is even better than the ISM. GM’s strike, which started its fourth week, might contribute to a disruption of data. In Asia, China’s PMI signals a cyclical upswing; Taiwan appears to be a beneficiary of the trade war, while economic surprises in Japan were also positive and on the rise.

On the policy front, Fed Fund Futures suggest the Fed will cut rates on Oct. 30 and also potentially at the Dec. 11 meeting, marking the fourth rate cut from the Fed this year if realized. Market participants also expect the Bank of Japan to cut rates at the October 31st monetary policy meeting. 

Asymmetric risks ahead of the earnings season

Our scenario on equities remains defensive. Weakening economic  fundamentals and key milestones in the near term, such as a likely U.S. tariff hike on Chinese imports and rough Brexit negotiations, have us U/W equities. The earnings season, which starts on Oct. 15, could prove tricky. The number of US companies having issued negative EPS guidance for Q3 (82) stands above the 5-year average (74). At the sector level, the IT and Health Care sectors are the largest contributors to this negative guidance. Concurrently, M&A volumes decelerated sharply in the US in Q3 and equity markets have largely shrugged off the Q3 growth deceleration.

Nonetheless, we open a tactical Buy call on Japanese equities ahead of the Oct. 31 BoJ meeting. Japanese stocks’ valuation is attractive (as ever), price and earnings momentum are supportive, economic surprises are up, the trade deal with the US is good news, and monetary easing at the end of October could drag the JPY lower vs. USD.