Midseason report card: How is U.S. Q1 earnings season shaping up?

Executive summary:

Q1 earnings season is performing better than expected in the U.S.
U.S. economic growth cooled to 1.1% in Q1
The Fed is likely to raise rates by 0.25% at its upcoming meeting

On the latest edition of Market Week in Review, Director of Client Investment Strategies, Mark Eibel, and Sophie Antal-Gilbert, Head of AIS Portfolio & Business Consulting, provided an update on U.S. first-quarter earnings season. They also chatted about first-quarter U.S. GDP (gross domestic product) and what to expect at the next U.S. Federal Reserve (Fed) meeting.

U.S. Q1 earnings season: Thumbs up or thumbs down?

Antal-Gilbert started the conversation by asking Eibel how he would characterise the results from U.S. first-quarter earnings season at the halfway point. “If I had to decide between a thumbs-up or a thumbs-down rating, I’d probably lean toward a thumbs-up,” he said, noting that earnings growth is down roughly 5% to 7% on a year-over-year basis. Compared to earlier expectations for the first quarter, that’s actually not too bad of a number, Eibel remarked, noting that many analysts were projecting a 10% decline in earnings growth at one point.

So far, tech companies and big banks have reported fairly good results, he observed, while regional banks – which came under pressure during March’s banking crisis – have had a tougher time. Overall, though, the numbers from earnings season show that companies have generally been able to pass along price increases from rising inflation, Eibel said. However, the clock is running on this, he noted. “If companies can hang in there for a bit longer, they’ll see some more relief if inflation continues to decline. On the other hand, if inflation stays sticky, corporate earnings are going to come under more pressure in the months ahead,” Eibel explained.

Ultimately, in his opinion, first-quarter earnings season can probably be characterised as OK to slightly positive so far, Eibel said, largely due to the smaller-than-anticipated declines in earnings growth.

U.S. growth slows to 1.1% annualised pace in Q1

Pivoting to the U.S. economy, Eibel said that GDP grew at an annualised pace of 1.1% in the first quarter, which was slightly less than anticipated. While the number was still positive, it was a step down from the 2.6% growth rate seen in the fourth quarter of 2022, he added. “The Q1 GDP number really wasn’t too comforting, considering that most analysts expect the first quarter of 2023 to be the strongest in terms of growth,” Eibel noted.

On a more positive note, the report did show that consumer spending remained strong, he remarked, emphasising that this is important since consumer spending powers roughly 70% of the U.S. economy. On the other hand, the GDP report also showed a slowdown in business spending and lighter inventories, Eibel said. “At the end of the day, a growth rate of 1.1% is not too encouraging for what’s supposed to be the strongest quarter of the year,” he stated.

Fed likely to raise rates by 0.25% at May meeting

Antal-Gilbert and Eibel wrapped up the segment by discussing what to expect at the upcoming Fed policy meeting on 2-3 May. Eibel said he anticipates that the U.S. central bank will lift interest rates by 25 basis points, adding the latest GDP number probably won’t cause the Fed to change course.

The more interesting part for markets will be what, if anything, Fed officials say about inflation and the potential end of the rate-hiking cycle, Eibel stated. “I don’t know if this next rate hike will be the last one, but it’s clear we’re getting close to the end. So, could this next meeting be when the Fed starts messaging the much-anticipated pause on rate hikes? And, if so, will officials also provide clues on how long a pause could last? Investors will be paying extra-close attention to any and all of this,” he remarked. Eibel concluded by emphasising that the length of any pause in rate increases will likely depend on how fast inflation declines.

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Any opinion expressed is that of Russell Investments, is not a statement of fact, is subject to change and does not constitute investment advice.