Surprise! Earnings Aren't Down As Badly As Feared

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Includes: BNO, BRZU, BZQ, DBBR, DBO, DBUK, DNO, DTO, DWTI, DXPS, EWU, EWZ, FBZ, FKU, HEWU, OIL, OLEM, OLO, QGBR, SCO, SPY, SZO, UBR, UCO, USL, USO, UWTI
by: Louis Navellier

Last Tuesday, the stock market seemed to be “melting up,” but then the market began a slow decline over the rest of the week, finishing down 0.5% for the week and up just 0.1% year-to-date. As the first quarter earnings announcement season winds down, I am pleased with the overall results so far, since we’ve seen so many positive earnings surprises.

With over 90% of the companies in the S&P 500 having reported their first quarter results, the average earnings decline was -6.4% versus analysts’ expectations of -7.7%. Sales declined an average of 1.7% for the same reporting companies. For the current (second) quarter, analysts are expecting a 3.9% earnings decline. To me, this essentially means that stocks posting positive sales and earnings should break out and emerge as the market leaders in the upcoming months.

We are seeing several new distractions overseas, including Britain’s June 23 vote to leave the European Union (EU). Last Thursday, the Bank of England said,

The most significant risks to the (bank’s) forecast concern the referendum. A vote to leave the EU could materially alter the outlook for output and inflation, and therefore the appropriate setting of monetary policy.

Translated from central banker jargon, the Bank of England stands ready to defend the value of the British pound in the event of a June 23 “Brexit.”

The other big international distraction is the impending impeachment of Brazil’s President Dilma Rousseff. On Thursday, the Brazilian Senate deliberated for 20 hours and then voted 55 to 22 to put Rousseff on trial over charges that she disguised the size of the country’s budget to make the Brazilian economy look healthier in the run up to her 2014 election. The new interim President, Michel Temer, is a centrist who is expected to move Brazil more towards market-friendly policies.

President Temer said, “It is urgent we calm the nation and unite Brazil,” adding that “Political parties, leaders, organizations and the Brazilian people will cooperate to pull the country from this grave crisis.” (Source: Reuters.com, “Brazil’s Temer calls for unity, confidence for Brazil recovery,” May 13, 2016). This gives us some hope for South America’s largest economy and Brazil’s stock market in the run-up to the Olympics in Rio this summer.

So far this year, we have been favoring stocks with high and reliable dividends. I can’t over-stress that word “reliable” enough, since corporate dividend cuts have risen to a post-recession high in early 2016. According to Bespoke Investment Group (“Dividend Cuts Reach Seven Year High,” May 10), there were 213 dividend cuts through April 30 – the highest rate since the 298 cuts in the first four months of 2009.

At the same time, Bespoke pointed to the data (from the Standard and Poor’s monthly dividend report) showing 921 dividend increases through April 30, down from 1017 last year, but still better than any year between 2004 and 2012. If you combine dividend cuts and dividend increases, you get “net” dividend increases, which paints a clear picture of rising dividend increases from 2010 to 2014, then a slowdown:

*Dividend increases, less dividend cuts, through April 30 each year
Source: Bespoke Investment Group, May 10, 2016 (Using S&P data)
Year Net Dividend Increases to April 30* Change over previous year
2009 -46 -624
2010 349 +395
2011 519 +170
2012 679 +160
2013 776 +97
2014 911 +135
2015 848 -63
2016 708 -140

This trend tells me that we’re not likely entering an overall recession, as in 2008-09, but certain sectors, notably energy, remain in a steep earnings recession that may get worse. Bryan Perry’s Income Mail column refers to the benefit of utility stocks in an era of dividend cuts in other sectors.)

Could the Alberta Fires Boost Oil Prices?

The recovery of many energy companies depends on a return to $50 per barrel crude oil. I feel $50 at year-end 2016 is unrealistic. The devastating fires in Alberta have largely spared the tar sands, although some infrastructure has to be repaired. Canada is expected to fully resume its crude oil production in the upcoming weeks. The more devastating supply situation is developing in Kuwait, which on Tuesday pledged an almost 45% production increase over the next four years. Specifically, Abdulaziz Al Attar, head of research at the state-owned Kuwait Petroleum Corporation, said Kuwait is aiming to produce four million barrels of crude oil per day by 2020, sustaining that level through 2030. (Source: MarketWatch.com, “Kuwait confirms plans for record oil production at 4 million barrels a day,” May 10, 2016).

This effectively means that Kuwait wants to increase production by 44.4% from its March 2016 output of 2.77 million barrels a day. As a result, despite peak seasonal summer demand now fast approaching, I expect that crude oil prices will not rise significantly in the upcoming months due primarily to the ongoing inventory glut.

Speaking of crude oil inventories, the International Energy Agency (IEA) said on Thursday that crude inventories will experience a “dramatic reduction” in the second half of this year. Interestingly, in its best double-speak, the Paris-based IEA also said that global crude oil inventories will continue to increase in the first half of 2016 as Iran ramps up its production. Specifically, the IEA said that the rise in Iran’s oil production and exports after the lifting of international sanctions has been “faster than expected.”

Recent disruptions in Canada and Nigeria have exceeded 1.5 million barrels per day, but high inventories and robust production from some OPEC members have helped to keep inventories abnormally high. Frankly, I think that anyone expecting crude oil inventories to fall “dramatically” in the second half of 2016 is delusional, simply because too many OPEC members are boosting production to lock up Asian contracts.

P.S. I will appear on CNBC’s Squawk Box live this coming Thursday, May 19, at approximately 8:15 am EST. Please check it out if you can.

Disclosure: *Navellier may hold securities in one or more investment strategies offered to its clients.

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