Second Quarter Earnings Season
The much anticipated second quarter earnings season is here, and Wall Street Analysts are watching closely to see how companies are weathering the COVID-19 environment. It is no surprise, that on average, corporate profits are expected to decrease significantly compared to last year and come in much lower than the first quarter.
According to FactSet, on June 30, the estimated earnings decline for the second quarter was -44.1% compared to last year. This may seem like a large decrease, but it is not as low as the fourth quarter of 2008 when earnings declined -69.1% year-over-year.[i]
As of Thursday’s market close, 120 of the S&P 500 companies have reported, and on average, the decline has only been -15.65% in earnings. At first glance that seems very promising, but the companies that have yet to report are the firms that have been affected the most by the economic shutdown. When we look at the blended earnings decline, which considers companies that have already reported along with the earnings decline of companies that have yet to report, we are on track to hit the consensus decline of -44.1%.[ii]
Markets are forward looking and have already discounted the expected second quarter decline; therefore, so long as earnings do not decrease by more than the consensus number, the markets should hold up despite the bad results. Analysts will be paying more attention to the guidance provided by firm executives and the recent trends in COVID-19 infection and death rate.
A large part of our equity strategy is in companies that have a long track record of paying and increasing their dividend. As a result, this earnings season, we are closely watching how committed management is to continuing to pay dividends. We are analyzing the earnings transcripts for all the companies we own and monitoring the dividend coverage ratio, which is a good indicator of a company’s ability to pay a dividend. If there is any indication that the dividend may be at risk, we are prepared to remove the company from our portfolio and replace it with a quality firm with a strong balance sheet that is capable of delivering a dividend to shareholders.
Over the next couple of weeks the majority of the S&P 500 constituents will report and we will keep you informed how the market is reacting and if any shifts in our portfolio will be made given the new information released.