Investors Are Set To Receive A Deluge Of Information This Week

Get ready. After nearly a month of relatively light news on the economic and market front, investors are set to receive a deluge of information to digest in the upcoming week. While some of the outcomes may not necessarily be a surprise, much if it is not likely to be resoundingly positive. Moreover, it will play a measurable part in setting the tone for markets for the remainder of the year.

So what’s so notable that’s on tap for the upcoming week.

1. Second quarter earnings season in the spotlight. A little less than one quarter of companies in the S&P 500 Index have reported second quarter earnings so far through Friday’s close. But over the next five trading days, nearly one half (or 48.3% to be exact) of companies in the benchmark index will be announcing their latest quarterly results and updating their forward guidance. This includes big deal companies like Microsoft (MSFT) and Visa (V) after the close on Tuesday, Apple (AAPL) and Intel (INTC) after the close on Thursday, and Caterpillar (CAT) and Chevron (CVX) on Friday.

Projected second-quarter operating and GAAP earnings for the S&P 500 have already been revised lower by -4% and -7% so far in the first few weeks of the latest reporting season, which is not a great start. More notably, quarterly GAAP earnings are now projected to decline on a year-over-year basis, while operating earnings are still barely positive. Given the increasingly deteriorating economic outlook, it should come as no surprise to investors if the latest quarterly estimates for the S&P 500 are further revised measurably lower by the time the upcoming week is out.

Why does this latest potential downward earnings revision matter? Because stocks as measured by the S&P 500 are still historically expensive at more than 20 times earnings at a time when interest rates are rising and the economy is slowing, which is a toxic mix that historically has justified stocks trading at a historical discount, not a premium. Thus, if a hatchet is taken to the “E” in the P/E ratio for the S&P 500 in the coming week, this will only serve to make stocks even more expensive even if the price on the S&P 500 stays the same. In fact, stocks could become measurably more expensive in the coming week if we see a further downward revision in earnings even if the S&P 500 ends lower for the week (the “E” falls more than the “P” in the P/E ratio). Such an outcome would not be encouraging for those investors anticipating a bottom being set in stock prices.

2. Another triple from the Federal Reserve. Remember when the U.S. Federal Reserve was so extra, super, special cautious about even raising the idea about tightening monetary policy much less actually doing anything about it? That Fed tentativeness was so 2010s. We’re now well into a new decade that’s brought with it some blazing hot inflation and along with it a Federal Reserve that’s suddenly crackin’ skulls from a monetary policy perspective.

Long gone are the days of endless handwringing and market handholding about a 25-basis point rate hike that only kind of might happen if stocks are truly up for it, but otherwise we’ll wait if needed. Now, the Fed’s firing off 75-basis point rate hikes while at the same time moving assertively to shrink a balance sheet that has become bloated beyond recognition following a Great Financial Crisis and the COVID pandemic (a health care crisis, of course, not a financial crisis – still not sure why the Fed felt the need to overstimulate for so long).

On Wednesday, Jay Powell and his FOMC posse will emerge from the Eccles Building to take the mike and announce the latest round of monetary tightening. While the knee jerk notion coming out of the latest Consumer Price Index (CPI) report from more than a week ago that the Fed might hike by 100-basis points at this meeting has since cooled to a roughly 20% probability according to CME Fed Fund Futures (I personally would assign a less than 1% chance that the Fed goes for 100-basis points on Wednesday, but that’s just me), the Fed is still anticipated to raise interest rates by another 75-basis points on Wednesday. This, of course, would be on top of the 75-basis point increase the Fed already dealt out last month on June 15.

Why does this matter? Because even if the market gets what it is fully expecting in another 75-basis point interest rate hike, it’s still another 75-basis point interest rate hike that is aggressively draining liquidity out of the financial marketplace. And knowing that it takes between 9 to 18 months on average for an interest rate hike to fully work its way through the economy and financial system, we as investors will be feeling the effects of what takes place with the Fed on Wednesday for the foreseeable future.

3. Recession officially confirmed. Reminiscent of Scottie Pippen’s devastating dunk over Patrick Ewing in the 1994 NBA Playoffs, the Fed is expected to match its biggest rate hike since that very same year on Wednesday just one day before the Bureau of Economic Analysis (BEA) is set to release its first look at second-quarter GDP this Thursday. While the actual number remains to be seen, it is projected that the latest real GDP growth reading for 2022 Q2 will come in at -1.6% according to the Atlanta Fed GDPNow model. Given that real GDP growth for 2022 Q1 declined by -1.6%, another negative reading for Q2 would put the U.S. economy into the textbook definition of an economic recession.

Why does this matter? Because declining economic growth is highly correlated with declining sales growth that directly feeds to declining earnings growth and narrowing net profit margins, which is usually decidedly negative for stock prices. S&P 500 profit margins have already narrowed thus far this year from 2021 peaks, and the onset of a recession has the potential to further this margin compression going forward.

In addition, it should also be anticipated that this latest recession may drag on longer than just two consecutive negative quarters of real GDP growth. Before it’s all over, we should not be surprised if we see a contraction in real GDP growth that stretches four or five quarters before it’s all said and done. Only time will tell, but nonetheless, economic slowdowns are not good for stock prices, and this is particularly true for more prolonged economic slowdowns.

4. Headline inflation still running hot. Capping off the week ahead on Friday will be the latest release of the Personal Consumption Expenditures Price Index (PCEPI) also from the Bureau of Economic Analysis for the month of June 2022. While this inflation reading does not receive nearly the same attention granted to the Consumer Price Index, it still matters a great deal as it’s the Fed’s preferred measure in monitoring inflation.

While I will be watching to see whether the rate of inflation for the PCEPI excluding food and energy slows (and if so, by how much) for the fifth consecutive month after peaking in February, which is a constructive trend in my view from a getting inflation back under control perspective, I expect the market will be more focused on how much the headline PCEPI jumps in June and whether it exceeds the previous March highs.

Why does this matter? Because if inflation is still running hot even though the economy may be officially in recession by the end of the week, it will compel the Fed to continue to tighten monetary policy aggressively until they see definitive signs that currently high inflation is coming back under control. For if the Fed learned anything from the late 1970s and early 1980s, it’s that a central banker has to completely eliminate an inflation problem first before they can double back and lift up a weak economy. So the longer inflation remains hot, the longer investors will have to wait for the Fed to come to the rescue of falling stock prices. In the meantime, higher interest rates from the Fed will likely compel lower stock prices. In a word, ouch.

Bottom line. The week ahead will potentially be a punishing week for the economy and financial markets. This does not mean that stock prices will respond immediately to these outcomes, as many are already widely expected. But even if they play out as expected, the information coming this week and built upon in the months ahead is likely to weigh on stocks through at least the end of the year if not longer. After all, even if you see the bus coming, it still hurts when it runs over you.

As a result, investors will be well served to maintain close attention to the economic and earnings news coming in the week ahead. It may not require immediate action from a portfolio management perspective, but how the final numbers actually look and how the market initially reacts will be useful in determining what changes, if any, may be required on the margins to a broad asset allocation strategy.