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Investors are punishing companies that report disappointing earnings or outlooks with unusually harsh share price declines, in an illustration of the tougher attitude emerging in the high interest rates environment.
During the current third-quarter results season, stocks in S&P 500 companies whose earnings per share fell short of analyst expectations, have dropped by an average of 5.5 per cent in the days following their results, according to figures from FactSet. The five-year average is 2.3 per cent.
Corporate earnings on both sides of the Atlantic have so far broadly kept pace with expectations, but analysts say markets are becoming more discerning about which stocks could be vulnerable to higher borrowing costs and the risk of slowing growth.
“Investor sensitivities are heightened,” said Mike Zigmont, head of trading and research at Harvest Volatility Management. “The overall narrative for the [earnings] season is pretty neutral but the winners and losers are miles apart.”
The nerves come against a backdrop of a steep drop in global government bond prices and underscore investors’ “extreme prejudice towards anything sensitive to” the resulting higher borrowing costs, said Charlie McElligott, an analyst at Nomura.
Larger companies have not been spared. On Wednesday, Alphabet dropped more than 9 per cent, its worst day since March 2020, after growth in Google’s cloud computing division sagged.
Some European groups that missed estimates have suffered even steeper declines. Shares in French payments group Worldline this week sank 60 per cent after it downgraded its outlook. The UK’s CAB Payments plunged 72 per cent, just three months after it listed after cutting its revenue forecasts.
David Souccar, a portfolio manager at Vontobel, said companies that miss numbers “even by a small margin are being overly penalised”. Persistent concerns that the US economy might not stick a so-called soft landing — despite a run of robust economic data — had contributed to investors’ harsh treatment of even modestly underwhelming corporate results, he said.
Consumer credit groups Equifax and TransUnion, both “thermometers of consumer health” posted earnings below expectations and were punished as a result, Souccar added.
Some pin the sharp share price moves on the recent jump in Treasury yields, which has tightened broader financial conditions to the tune of roughly 0.75 percentage point interest rate rises since the Federal Reserve’s late-September meeting, according to analysts at Morgan Stanley.
Central banks’ aggressive tightening is slowly beginning to weigh on indebted companies through higher debt servicing costs — a trend that prompted the Bank of England to warn in August of an approaching wave of corporate defaults. The global corporate default total stands at 118 so far this year, nearly double the 2022 total and well above the five-year average of 101, according to S&P Global Ratings.
“With higher interest rates the market has become more sensitive to misses than in a lower interest rate environment,” said Sharon Bell, European equity strategist at Goldman Sachs.
Manish Kabra, head of US equity strategy at Société Générale, said companies that missed earnings expectations tended to be punished more harshly if they reported when the broader stock market was falling.
“Those companies that do miss are finding themselves punished very heavily with a share price fall averaging 5.8 per cent over the next two days and an average decline relative to the broader US market of 4.4 per cent,” Kabra said.
Some investors are now warning that analysts’ low double-digit earnings growth estimates for 2024 look wildly optimistic.
“If nominal gross domestic product [for next year] is 5 per cent, and margins are at historical levels, that means operating income growth of 5 per cent is more realistic,” said Jim Tierney, chief investment officer of concentrated US growth at AllianceBernstein. “Investors should be wary of which companies are going to disappoint.”
He added: “The free money era, coupled with multiple stimulus payments in the US, created nirvana for credit extenders. Now the pendulum has swung the other way and there will be consequences.”
With additional reporting by Chris Flood in London
