Earnings season is back, and so is the distortion.
In the backdrop of what are now undeniably central bank-driven markets riding a decade+ wave of pure (and historically unprecedented) “intervention,” I’m often asked if fundamentals even matter anymore.
Below, I’ll show why they do and why this is likely the Fed’s “last hurrah.”
What Many Are Wondering
This brings us back to the introductory question: Do facts and figures matter when a Fed controls just about everything in our securities markets – including the dishonest narrative?
And it’s a good question.
First, let’s look at the most recent Q3 facts and figures.
Purchasing Manager Indexes (PMIs) are down. The Cass Freight Index is screaming “recessionary slowdown” ahead. Inventories are at highs while sales are at lows – and that’s not because of China, but it’s because consumers are tapped out.
50% of American workers earn less than $33,000 per year, and consumer delinquencies in non-mortgage debt are at new peaks.
And that’s just the beginning.
Data from U.S. consumers and our dying middle class, which comprise 70% of our slumping GDP, are beyond bearish. Yet every day, the media and D.C. swamp remind us that consumer strength is solid.
But the numbers prove that such consumer headlines are just not true.
This quarter, discretionary spending has tanked to 2016 levels – going sideways to downward.
And yet such historical indicators just don’t seem to matter, as…
Markets Just Won’t Roll Over
The markets, supported by over $100 billion in recent Fed support, won’t roll over.
We saw similar warning signs back in 2016. Recession talk was everywhere. Then came the infamous elections, and “shazam,” the markets ripped on new optimism and new energy in D.C.
The world labeled this the “Trump Bump” – added by the sugar highs of a tax cut in 2017, which corporate America loved.
But today, the economy is slumping again in ways highly reminiscent of the 2016 woes and 2016 numbers.
And, once again, the markets are dismissing such signals and buying new highs as the Fed prints more dollars to keep the party going.
But unlike 2016, debt levels are significantly higher and the hitherto “bump energy” in the current D.C. slugfest (whether seen as a treacherous coup, witch hunt, or fight for justice) is anything but positive.
Meanwhile, on the monetary front, the Fed looks confused and desperate, running around the Eccles Building like headless chickens as glaring liquidity dangers in the repo and treasury markets force the Fed to once again crank out their money printers at a rate of $60 billion per month into June of 2020 despite simultaneously telling the world it’s not “quantitative easing.”
This QE denial, of course, is just an open Fed lie, one of many we are transparently tracking.
At the same time, the “nobody wins” trade war with China continues to cripple global markets and supply chain efficiencies, adding more straws to the back of the global economic camel.
But again: The markets won’t roll over…
So… Do fundamentals matter?
Riding the Debunked Lies
The media and Wall Street’s sell-side credit these unsinkable markets to the fact that unemployment is at record lows and inflation is effectively extinct, while profits and earnings are up.
Which means this market is supported by myth rather than fiction, and Fed demand rather than natural demand.
Myths, of course, are hard to quantify, track, or time with traditional signals, including the undeniably bearish data points outlined above and elsewhere.
Hence the same ol’ question: Do fundamentals matter anymore?
That is, has the Fed replaced natural market forces? Are we entering an era devoid of worry, recessions, and market bears?
A New Fed Divinity
For many, the Fed is almost like a force of near-divine powers.
Although their hubris is rising along with their desperation and dishonesty, the Fed’s words and actions, like their fancy building on Constitution Ave., still inspire awe – which is ironic, given that the Fed is openly unconstitutional, a fact that Presidents Jefferson and Jackson warned about till their last breaths.
There’s a strange and misplaced respect accorded to this otherwise distortive institution, despite overwhelming evidence that it serves a Wall Street minority in an otherwise rigged to fail game in which its record for warning retail investors of a recession is 0 for 9.
But the Fed, and the banks it serves, are running on fumes.
The latest report by none other than McKinsey & Co. suggests that over 50% of the world’s banks will fail in the next recession, as they just don’t have enough money/liquidity.
That’s why our recent repo bailout is essentially a 24-hour pawn shop for banks: they give the Fed unloved and old Treasuries, and the Fed gives them cash to stay alive in a now yield-less “new abnormal.”
Think I’m just a grumpy perma-bear?
Well, Mervyn King, the former head of the Bank of England (think Bernanke with an accent), just announced that the Fed and other central bankers should meet with legislators behind closed doors to make law-makers aware “of how vulnerable they’ll be in the event of the next crisis.”
Even the UN’s very own Secretary General (a non-financial, diplomatic player) is demanding immediate fiscal stimulus to save the world from financial crisis.
But for those who still think the Fed is all-powerful and that recessions are either extinct or can’t be tracked, we think one of the key catalysts of the next recession is hiding in plain sight.
What the Earnings Season Is Telling Us
Q3 earnings season is here, and many are bracing for what is anticipated to be a third quarter of declines compared to the year prior.
The FAANGs will likely keep overall index averages ahead of the curve and certainly ahead of other global exchanges, despite embarrassing data from names like Boeing…
Regardless of declines or gains, you can be sure that the PR departments and Wall Street “analysts” (i.e. marketing department) will make certain those numbers “beat expectations.”
They achieve this magic trick (scam) by simply lowering the expectations prior to earnings season – hence almost everyone “beats” them.
The Great Big Profit Red Flag
Profits, of course matter, and profits, despite what Wall Street would have you think, are more important than earnings, which can be manipulated and twisted easier than a pretzel.
Remember, just because a lemonade stand earns $2.00, its profits might amount to only a dime if the cost of lemons adds up to $1.90.
Again, profits matter.
But profits on Wall Street can be equally twisted into a pretzel of misinformation, as we will quickly discover.
You see, there’s this ironically honest office in D.C. called the Bureau of Economic Analysis (the BEA), which measures total corporate profits across the U.S., and not just those of the 500 companies listed on the S&P.
According to the BEA, total corporate profits across the U.S. are down by 4% at the very same time that the S&P is arguing that average earnings are up by double digits across our top 500 companies.
What gives? How can there be such disparity between profits and earnings, D.C., and Wall Street? More importantly, how can profits be down and earnings up?
Well, for starters the BEA uses GAAP rather than Ex-Items accounting to keep its math more honest.
Secondly, the BEA measures profits in total dollars rather than upon a “per share basis,” which thanks to the once illegal use of stock buy-backs now in vogue today (and responsible for 20% of the markets “gains”), Wall Street is able to grossly distort (reduce) the number of shares from which these twisted “profits” can magically emerge.
Stated otherwise, the BEA numbers are infinitely more accurate than Wall Street’s fictional S&P report card.
This means our nation is suffering from an actual decline in profits while the markets promote rising earnings. That’s akin to getting thinner with every pizza one consumes.
According to the more accurate BEA math, however, the U.S. has also seen three consecutive quarterly declines in corporate earnings and profits.
How many investors know this? Hardly any. But now you do.
What Does the Real Profit & Earnings Data Say About A Pending “Uh Oh” Moment?
Above, we posed the question of whether fundamentals still matter given how seemingly Oz-like the Fed’s magical intervention has now become.
But we maintain that fundamentals like corporate profits and genuine earnings will win – i.e. get the last laugh over our otherwise laughable Fed and Wall Street math.
For now, corporate profits are a key story used by Wall Street to justify stock market valuations. They are, of course, projected to grow in 2020 and 2021, just as they were projected last year at this time – remember that?
But here’s the rub: Maybe profits and earnings (even the distorted versions) won’t grow by the projected 12% this year or next, just as they did not grow in Q4 of last hear?
More importantly, the very data behind these reported and projected profits and earnings are demonstrably inaccurate and rigged.
No big surprise there. That’s business/math as usual along the D.C./Wall Street corridor.
But if profit outlooks deteriorate, as they must and will given the deterioration of our empirically weakening consumer class (above), earnings and profits will have to follow suit in the decline.
Similarly, credit quality will in turn deteriorate, and thus credit spreads (between Treasuries and corporate bonds) will widen, which means stock buybacks (the fake wind beneath the market’s wings) will in turn slow down, creating a negative feedback loop of lower and lower earnings and hence lower and lower stock prices.
Bonds and stocks will thus fall in tandem, and the signal to short junky stocks and junky bonds (perhaps as soon as Q4) will finally become available for those patient enough to wait out the Fed’s last remaining tricks (aka increased QE distortions and third-rate accounting).
Why am I so confident of this?
Because everything I report is based upon this singular conviction and premise: Natural market forces are ultimately stronger than un-natural central bank forces, and truth always prevails over lies.
The Fed has given us no chance at the former, and countless examples of the latter.
Which force will you bet on?
Let us know in the comment box below. We’ll be back on Monday with more on this Alice in Wonderland market backdrop.
15 responses to “The Scary Truth Behind Earnings Season”
October 25 2019