The Next Big Risk That Could End the Stock Rally Is Here

via CNBC:

  • From J.P. Morgan to Microsoft, S&P 500 companies begin rolling out earnings in a big way in the coming week, providing the next big challenge to the stock market rally.
  • Stocks rose to record highs this past week, as Federal Reserve Chair Jerome Powell assured investors the Fed is ready to act to cut rates, if needed, to defend the economy from weaker world growth and the impacts of the trade war.
  • Now it’s the impact of both of those factors — slowing growth and the trade war’s tariffs — that could show up in corporate earnings, making them the latest risk for the market.

Stocks could struggle if the earnings message from corporate America focuses on the murky outlook for the economy and negative impacts from the trade wars when companies start reporting second-quarter results in the week ahead.

Earnings season is seen as the next big risk for a stock market that has soared to record highs on expectations that the Federal Reserve will start cutting interest rates, as early as its next meeting, July 30-31.

“If the data doesn’t corroborate expectations right now, it’s going to be more of a choppy market,” said Peter Boockvar, chief investment officer at Bleakley Advisory Group. “Either way, earnings season, more than previously, is going to be a minefield because of these tariffs and a slowing growth story — and stocks that are at record highs. That doesn’t leave much room for error.”

The earnings season kicks off in a big way in the coming week, starting with the major banks, and Citigroup is first out of the gate Monday. It will be quickly followed by Goldman Sachs, Wells Fargo and industry bellwether J.P. Morgan on Tuesday, Bank of America on Wednesday and Morgan Stanley on Thursday.

Stocks set new highs in the past week, and ended the week with solid gains. Both the S&P 500 and Dow crossed above important psychological milestones. The S&P 500 rose above 3,000 for the first time ever, to close at 3,013, up 0.8% for the week. The Dow rose above 27,000 and finished the week at 27,332, up 1.5% for the week. The Fed “put,” or promise of easy policy should limit the downside for now, analysts said.

Earnings are expected to decline for the S&P 500 by 2.9% for the second quarter, according to FactSet. Of 114 companies that issued guidance for the quarter, 77% released negative forecasts, according to FactSet data.

Already Fastenal, in its earnings report, said Thursday that it was impacted by tariffs, and that it was able to raise prices but it was also hit by rising costs.

“They talked about slowing growth … and the impact tariffs are having on their costs. They’re trying to pass it on,” said Boockvar, adding other multinationals could follow. “You’re talking about the S&P 500, where 40% of revenues are sourced overseas and overseas is slowing. They’re obviously going to be hit.”

Boockvar said the impact of higher tariffs is yet to be seen, after President Donald Trump raised tariffs on $200 billion in Chinese goods to 25% from 10% on May 10. “This quarter’s earnings are really going to define the impact. A lot of companies said, ’10% we can handle, but 25% is a problem.′ Now we’re at 25%. How much of a problem is it going to be?” said Boockvar.

Some analysts expect the earnings season to cause bumps, but the bigger catalyst for the markets would be either positive or negative developments in the trade war. So far, the U.S. and China have declared a truce but no real signs of progress in the talks have been seen.

“We know the earnings results are going to be poor. But the market’s looking beyond that,” said Scott Wren, senior U.S. equity strategist at Wells Fargo Investment Institute. “We’re looking for guidance from these companies, but let’s face it, they’re all going to use trade frictions as an excuse and some of them are even going to use the strong dollar. But the reality is the dollar’s been trapped in a range for more than a year.”

Wren expects some companies to beat the lowered guidance, and earnings could end up being flat for the quarter. He and some other analysts expect the end result may be that the market keeps a bid even if there are hiccups.

“On the whole, given the fact that earnings expectations are so subdued, it’s not likely to be an aggregate market negative,” said Julian Emanuel, chief equity and derivatives strategist at BTIG. “It’s going to be an environment where it’s good for some stocks, bad for others.” On top of that, the Fed’s rate cutting should help steady a market that’s already been gaining on anticipation of the Fed’s action.

Banks typically set the tone for the early days of earnings season but there are a mix of industries expected, as about a tenth of the S&P 500 report over the coming week. Tech heavyweight Microsoft releases its report Thursday and Netflix, the first FANG name of the quarter, reports Wednesday afternoon. A bunch of other financial companies also report, including BlackRock, Blackstone and American Express.

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