Earnings reports are a bit like the transcripts of corporate America, and they can tell us a lot about what the economy is doing and expected to do. Alphabet reported disappointing earnings on Tuesday: revenue growth slowed — down sharply — from 41% last year to just 6% this year. On the other hand, higher earnings from payroll processor ADP on Wednesday surprised investors.
Most S&P 500 companies have beaten revenue estimates so far this earnings season.
“I think the sentiment in the report is generally positive,” said Alex Zukin, managing director of Wolff Research. “It’s that prospect that makes people a little hesitant.”
Outlook is part of earnings reports, where companies tell you what they think will happen in the future. For example, Microsoft suggested reducing demand for some of its products, Zukin said. Some of the other red flags Zukin sees are companies suddenly focused on cutting costs.
“How do we make sure every dollar we spend is spent in the right way?” he said. “These two things are often ominous signals for the future demand environment.”
There is a significant difference between companies with negative prospects or poor earnings and those without.
“It depends on who you sell to,” said Michael Walker, an analyst at asset management firm AllianceBernstein. “If you’re selling to consumers, or you’re dealing with consumers and individuals, you’ve done well so far and in fact the outlook for next year is very good.”
The job market is in good shape, so it’s no surprise that the payroll processor ADP is outpacing earnings.
“On the other hand, if you sell to companies, then you start to see recessions,” Walker said.
Forecasts from Google, Microsoft and Texas Instruments, which all sell to businesses, were disappointing. Businesses are starting to feel the effects of higher interest rates — which make it harder to borrow, which lowers stock prices.
“It’s really been wave after wave,” said Joel Plaken, chief U.S. economist at S&P Global Market Intelligence. “For example, we’ve seen that the housing sector was the first to respond by shrinking.”
Next, he said, business spending on equipment will fall.
“Somewhere in the mix, you’ll see spending on consumer durables fall,” he said.
All of this will start showing up in earnings reports over time.
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