Markets managed to register gains in July despite weak earnings and international growth concerns. China’s equity markets underwent a significant downturn, heightening investor concerns. Meanwhile, oil prices remained southbound, leading to losses for the sector.
Successful conclusions to Greece’s debt negotiations, GDP growth in the second quarter and impressive earnings performance from financials were some of the factors which helped benchmarks post gains over the month.
July’s Performance
For the month, the Dow, S&P 500 and Nasdaq rose 0.4%, 2% and 2.9%, respectively.
Successful Greek debt negotiations, the Fed’s optimism about the economy and some of the encouraging earnings results boosted investor sentiment over the last month. Eurozone’s finance ministers decided to “grant in principle a 3-year ESM stability support to Greece.”
Meanwhile, the Fed remained dovish about the economic health, which increased September rate hike possibilities. The Federal Reserve Chairwoman Janet Yellen expressed optimism over the state of the U.S. economy and hinted at a rate hike later this year.
GDP Improves, Lags Expectations
U.S. economy accelerated in spring after a soft start in the first quarter. According to the “advance” estimate by the Bureau of Economic Analysis, the second quarter output of goods and services increased at an annual rate of 2.3%, which was more than the revised 0.6% growth in the first quarter. First-quarter GDP data was revised upward from the previously reported contraction of 0.2%.
However, second quarter GDP growth fell short of the consensus estimate of a 2.7% gain. Nevertheless, higher consumer spending on big ticket items including new cars and trucks, and housing helped second quarter GDP gain momentum. Real personal consumption expenditure accelerated by 2.9%, following a 1.8% increase in the first quarter.
Additionally, inflation as measured by PCE price index increased by 2.2% in the second quarter after declining 1.9% in the first quarter. Core PCE that excludes food and energy costs, increased by 1.8% following a rise of 1% in the first quarter.
Unemployment Hits 7+-Year Low
The U.S. economy created a total of 223,000 jobs in June, lower than the consensus estimate of 227,000. The tally was less than May’s downwardly revised job number of 254,000. April’s job number was also revised down to 187,000.
Meanwhile, the unemployment rate went down to its lowest level in more than seven years in June. Unemployment rate came in at 5.3% in June, down from 5.5% in May. The unemployment rate was narrower than the consensus estimate of 5.4%.
Average hourly earnings remained unchanged in June from previous month’s figure at $24.95 per hour, lower than the consensus estimate of a 0.2% rise. Additionally, labor force participation rate came in at 80.8%, lower than the prior month’s rate of 81%.
Mixed Domestic Data
Several economic reports were positive in nature. Construction spending continued to rise. Both the ISM Manufacturing and Services indexes increased more than expected. Durable orders also rose more than expected, primarily due to higher aircraft orders.
Additionally, PPI increased beyond expectations and the CPI also increased, boosting the annual rate of inflation for the first time this year. Industrial production also increased. Private sector hiring increased at the fastest pace in six months in June.
The major disappointment was the decline in retail sales. Retail sales declined 0.3% in June. Figures for May were also trimmed from 1.2% to 1%. April’s figures were also revised lower. Also, Consumer Confidence dropped and factory orders declined more than expected.
The employment cost index showed that wages and benefits paid to employees increased at a record low rate of 0.2% in the second quarter.
Housing Recovery Continues
Overall, housing data released in July indicates a healthy pace of growth. Building permits jumped 7.4% from May while privately-owned housing starts surged 9.8% in June. Existing home sales increased at the fastest rate since Feb 2007.The National Association of Home Builders (NAHB)/Wells Fargo housing market index (HMI) posted the highest reading since Nov 2005.
However, new home sales dropped to the lowest level in seven months in June. Pending home sales also experienced a decline.
Earnings Fail to Inspire Confidence
Q2 earnings reported so far have been largely uninspiring in nature. Growth remains non-existent, companies are struggling to beat lowered estimates particularly for revenues, and guidance remains on the negative side.
Microsoft MSFT reported dismal results while investors were miffed with Apple’s AAPL outlook. Caterpillar CAT, 3M MMM and American Express AXP are among other major companies which reported disappointing results.
However, the finance sector has been able to show some earnings power and posted the best earnings for Q2. Earnings for the likes of JPMorgan JPM and Citigroup C came in above expectations. Intel INTC and Amazon.com AMZN were some other big names which posted optimistic earnings numbers.
Greece Reaches Bailout Deal
After much heartburn for investors, Greece reached an agreement with its lenders on a bailout deal during the middle of the month. Among other terms of the agreement, Greece needs to broaden its tax structure and improve long-term sustainability of pension schemes.
Greek government’s vote in favor of austerity measures alleviated concerns about the country’s exit from the currency bloc. Approval for tougher policy overhauls and pension reforms came in despite violent protests by anti-austerity demonstrators ahead of the Greek parliamentary vote.
Eurozone finance ministers agreed “to grant in principle a 3-year ESM stability support to Greece.” Additionally, the ECB President Mario Draghi said the central bank will give more aid to Greece.
China Stocks Nosedive
The slump in China’s equity market plagued investors through July. Notably, on July 8, the Shanghai Composite Index finished 5.9%. Chinese government agencies stepped up their efforts to curb the selloff. The China Securities Regulatory Commission (CSRC) said China Securities Finance Corp. will buy more small-cap stocks to stabilize the market.
Last Monday, the Shanghai Composite tanked 8.6% recording its worst one-day slide since Feb 2007. The CSRC again vowed to stabilize the market and prevent “systematic risks” by purchasing more shares. However, these measures failed to alleviate concerns of international investors. Ultimately, the Shanghai Composite slumped 15% over the month of July.
Weakness in China’s economy is another concern weighing on stocks. Official GDP data came in line with yearly targets, which attracted much skepticism. Other economic data released yesterday was more in keeping with the opinion of international investors.
Oil Prices Slump
Oil prices trended lower through the month. Oil prices took a beating after Iran reached a nuclear agreement with six world powers including the U.S. The deal aims to restrict Iran from manufacturing nuclear weapons in exchange for lifting economic sanctions including limits on Tehran’s crude oil exports.
However, crude oil prices recovered to settle in the green after it became apparent that Iran will take several months to ramp up its production to previous levels. This eased concerns about abundant supply of oil. Additionally, it will take around two months for the U.S. to get congressional approval for the pact. But prices continued to remain southbound.
Weak demand in China, a strong dollar, concerns regarding over supply of oil and continuous increase in US drilling-rigs weighed on oil prices. The Energy Select Sector SPDR (XLE) was the worst performer among the 10 S&P 500 sectors, declining nearly 7.7% in July.
This led to sustained pressure on oil stocks while key players from the sector reported disappointing results. Both Exxon Mobil XOM and Chevron CVX posted dismal earnings numbers.
FOMC Policy Statement
The Federal Open Market Committee’s two-day policy meeting gave no clear indication on the timing of the first rate hike. However, the door for a September rate hike was kept open.
The policy makers said: “The labor market continued to improve, with solid job gains and declining unemployment.” The committee also said that “economic activity has been expanding moderately in recent months” and that there has been “moderate” improvement in consumer spending levels along with an “additional improvement” in the housing market.
These comments did raise speculations of a possible rate hike in September or December at the latest. However, the committee also mentioned “inflation continued to run below the Committee's longer-run objective.” The central bank’s inflation target is 2%.
Fed Chair Signals Rate Hike
In her testimony before Congress, Federal Reserve Chairwoman Janet Yellen said she expects the U.S. economy to strengthen and the central bank to hike interest rates “at some point this year.” She also pointed out that consumer confidence is upbeat and consumer spending levels increased mostly in new cars and trucks.
Her optimistic view was also supported by the Fed’s Beige Book that showed all the 12 districts reported expansion in economic activity from mid-May through June. Yellen concluded her two-day testimony to the Senate Banking Committee by saying that she doesn’t want the inflation rate to linger below the target rate of 2%.
5 Star Performers for July
I ran a screen on Research Wizard for companies with the following parameters:
(Click here to sign up for a free trial to the Research Wizard today):
- Percentage price change over the last 4 weeks greater than or equal to 10%
- Forward price-to-earnings ratio (P/E) for the current financial year (F1) less than or equal to 20. This picks out stocks that are good value choices
- Expected earnings growth for the current financial year greater than or equal to 20%
- Zacks Rank less than or equal to 2: This ascertains stocks that have shown above-average returns over the last 26 years.
(See the performance of Zacks’ portfolios and strategies here: About Zacks Performance).
Here are the top 5 stocks that made it through this screen:
Frontline Ltd. FRO is a shipping company which owns and operates oil tankers.
Price gain over the last 4 weeks = 28.2%
Frontline holds a Zacks Rank #2 (Buy). Its expected earnings growth for the current year is more than 100%. The stock’s forward price-to-earnings ratio (P/E) for the current financial year (F1) is 5.55.
Universal Forest Products Inc. UFPI engineers, manufactures, treats, distributes and installs lumber, composite wood, plastic and other building products.
Price gain over the last 4 weeks = 21.7%
Expected earnings growth for current year = 24.2%
Universal Forest Products holds a Zacks Rank #2 (Buy) and it has a P/E (F1) of 17.57x.
Allegiant Travel Company ALGT is focused on linking travelers in small cities to world-class leisure destinations.
Price gain over the last 4 weeks = 20.1%
Expected earnings growth for current year = 90.5%
Apart from a Zacks Rank #1 (Strong Buy), Allegiant Travel has a P/E (F1) of 17.53x.
Carolina Financial Corporation CARO is the holding company of CresCom Bank which provides both individual and business banking services in South Carolina.
Price gain over the last 4 weeks = 16.6%
Expected earnings growth for current year = 65.7%
Carolina Financial holds a Zacks Rank #1 (Strong Buy) and it has a P/E (F1) of 11.04x.
Alaska Air Group, Inc. ALK is a holding company and has two principal subsidiaries: Alaska Airlines, Inc. and Horizon Air Industries, Inc.
Price gain over the last 4 weeks = 16.5 %
Expected earnings growth for current year = 48.2%
Apart from a Zacks Rank #2 (Buy), Alaska Air Group has a P/E (F1) of 12.23x.
Will Gains Continue in August?
At this point, Greece no longer features on investors’ list of concerns. The Fed remains optimistic about the economy and housing and labor market data inspires some amount of confidence. However, other economic data were disappointing, particularly the lower-than-expected GDP growth. These numbers have been reported despite a change in methodology which was expected to push data upward.
Additionally, disappointing data on the employment cost index means that a September rate hike looks increasingly unlikely. This means that rate hike worries will also not be much of a problem going forward.
Dismal Q2 numbers, particularly on the revenue side, has been one downside which investors have been unable to ignore. It isn’t all bad news, with financials in particular displaying strength, but these reports have had a significant impact on market direction. Additionally, several companies have released weak outlook projections, which will have a bearing on future stock movement.
The onus on boosting stocks in the days ahead seems to squarely lie with economic reports. This week’s employment data will be an important factor in this regard.
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