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Europe Looks to ‘Messy’ Earnings That May Test Market’s Optimism

Bloomberg logoBloomberg 7/12/2020 Katharine Gemmell and Ksenia Galouchko

(Bloomberg) --

Investors are gearing up for a potentially tumultuous European earnings season that may offer clues on whether the stock market’s rapid rebound since the start of the Covid-19 pandemic has been wise or foolish.

The second-quarter reporting season kicks off this week with the likes of Volvo AB, Electrolux AB and Nordea Bank set to shed light on the virus’s profit impact. And with the region’s stock market having rallied 30% from March lows on bets that companies will start recovering in the second half of 2020, investors will be hungry for guidance that shows whether such optimism is well founded.

“Our focus for the quarterly results will not be the backward-looking damage in the second quarter, but more the forward guidance as economies start to reopen,” said Edward Park, deputy chief investment officer at Brooks Macdonald Asset Management. “The key for the second-quarter European earnings will be the corporate narrative for the recovery and guidance in a world less impacted by the daily swings of new case growth.”

a close up of a piano: European profit cuts have been outnumbering upgrades in 2020 © Bloomberg European profit cuts have been outnumbering upgrades in 2020

With the virus having already wreaked havoc with business, much is riding on how companies see the future. Current forecasts are for a 36% rebound in the earnings of Stoxx 600 companies in 2021, after a 32% contraction this year, according to data compiled by Bloomberg. However, with the pandemic still posing risks and the timing of a vaccine unclear, analysts are having a tougher time than usual estimating future profits or losses.

“It’s going to be a very messy quarter,” Roger Jones, the head of equities at London & Capital, said in a phone interview. “That is due to the very limited visibility that companies have had, and the difficulties in making any sensible financial predictions in the short period of time given the uncertainty.”

Brooks Macdonald’s Park expects the upcoming earnings season to feature many large expectation misses and beats because of how complicated forecasting profits has been during the Covid-19 uncertainty. At the start of the year, strategists were forecasting 8.2% profit growth for 2020, yet just three months later that expectation had changed to a 6% drop.

a close up of a map: Tech stocks are big winners of the recovery, while oil stocks lag © Bloomberg Tech stocks are big winners of the recovery, while oil stocks lag

The technology and healthcare sectors are seen as two big winners during this reporting season, having benefited from a switch to remote-working during lockdowns and the race to develop treatments for Covid-19. Since the Stoxx 600 Index started rebounding in March, technology has gained 60%, the most among all the sectors, while healthcare has added 24%.

“Many technology companies are clearly benefiting from the acceleration of recent disruptive trends, which are widening their addressable market at a greater speed than many thought previously possible,” said Marcus Morris-Eyton, a fund manager at Allianz Global Investors.

First-half results due on Tuesday from Ocado Group Plc should shine a light on the extent to which online grocers benefited from lockdowns, and any comments on the longer-term market implications will be closely watched.

Both Morris-Eyton and Park expect energy and cyclical consumer industries such as travel and leisure to post the biggest slumps in earnings. Oil stocks have suffered from dividend cuts in light of the falling price of the commodity and travel firms have seen business plunge during lockdowns.

“The key debate will be how quickly these earnings are able to rebound,” said Morris-Eyton.

a close up of a map: European stocks are beating U.S. peers on recovery optimism © Bloomberg European stocks are beating U.S. peers on recovery optimism

Looking ahead, while European earnings are expected to contract more this year than the 22% slump at S&P 500 companies, the recovery in 2021 is supposed to beat the 26% growth in the U.S. This could bode well for the region’s stock market, which in June outperformed the U.S. on bets of a quicker economic comeback and swift policy support measures.

“As long as the European recovery from Covid-19 continues, equity markets will be happy to look through the near-term effects of lockdown on corporate profitability as long as guidance points to sunnier pastures,” Park said.

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©2020 Bloomberg L.P.

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