Will banks results kick off with a surprise?💥

What to Expect from Wall Street's Earnings Season? 🔎

During the typically calm holiday period, the equity market is expected to deliver an exceptionally interesting end of July and August due to the earnings season for Q2 2023. The sentiment in the markets for the second half of the year could depend on these results. Moreover, weaker banking sector results may influence a revision of the FED's further tightening policy. Will the latest quarter be as successful as the previous one? Will we see an impact of higher interest rates in companies' results and forecasts? What to Expect from Wall Street's Earnings Season? Take a look at our analysis!

The first half of this year was record-breaking in terms of returns on the Nasdaq (US100) against the backdrop of historical years. The technology companies index achieved a solid 40% growth. If the current year were to end with such a return, it would place itself in the top five years with the best rate of return, and that in an environment of such high interest rates.

Markets are optimistic after the exceptionally good results from Q1, which surprised the market and drove high returns on indices. Therefore, investors' expectations may be high for the second quarter, which could lay the groundwork for potential disappointment. The impact of higher interest rates is always delayed and the shift can take from a few months up to 1-2 years. In the coming weeks, we will find out if high rates have started to drain liquidity from companies' balances. Despite weakening macroeconomic data and numerous challenges, Wall Street continues to show considerable strength. However, will company results justify further growth after a record first half of this year in terms of growth?

What will the results show?

Looking at the hard data, the prospects do not look so bleak. Some companies have already published Q2 2023 reports and so far the results are encouraging, with companies on average surpassing estimates by +3%. According to Bloomberg forecasts, the past quarter is expected to be the third consecutive quarter with a decline in net earnings year-on-year. At the same time, this is expected to be the last quarter with negative dynamics. Starting from the last quarter of 2022, the annual dynamics were -0.1%, -7.5%, and -7.1% respectively. In the next quarter, i.e., Q3 2023, the average net profit of S&P 500 companies is expected to grow by 0.3% y/y.

Banks in the shadow of a systemic crisis

Moving to particular sectors, investors' attention will be focused on the results of tech companies and the banking sector. This sector will kick off the earnings season this Friday. Financial reports will be delivered by major banks such as JPMorgan Chase & Co., Citigroup Inc., and Wells Fargo & Co. According to analysts' forecasts, higher interest rates in the past quarter are expected to support the banking sector's results in terms of interest revenues and balance out weakness in investment banking and trading divisions. Total forecasted bank revenues are expected to increase by 13.2%. Higher revenues, however, do not mean higher profits. Banks margins are limited as savings are relocated to achieve better deposit interest. Among the positions to watch will be the pace of net deposit outflows and a slowdown in loan lending, especially regarding regional banks. Below are the forecasts for the three leading banks:

• JP Morgan: the bank is expected to record total revenues of $39.3 billion, representing a 28% y/y increase, and net profit will rise by nearly 42% to $12.2 billion.

• Citigroup: in this case, the results are expected to be worse y/y. Net profit is expected to fall by 35% to $2.82 billion. Overall, earnings per share are expected to be $1.3 per share (it was $2.19 in the first quarter). The main factor in the poor results is expected to be small profits from debt instrument trading.

• Wells Fargo & Co: According to analysts, Wells Fargo is expected to be one of the banks with the best results y/y. Earnings per share are expected to increase by 53% to $1.13. 

The banking crisis from the middle of the first quarter of this year seems to be overcome. However, banks may now face the risk of additional capital requirements proposed by Barr from the FED. The proposal would lower the capital threshold from $700 billion to $100 billion in assets. More banks would have to meet stricter risk-based capital rules, requiring them to allocate resources to ensure compliance with regulations, potentially reducing profitability in the short term. Although these measures aim to strengthen the banking system, they may temporarily impact financial earnings. However, in the longer term, it will allow building a more resilient system, reducing risk, and supporting growth.

Tech results triggering Wall Street's decline?

The tech sector was the main driving force behind the euphoric growth on the S&P 500 and Nasdaq indices in recent months. Profits were driven by optimistic semiconductor sector forecasts and the boom in AI solutions and the hardware needed to train models. High valuations and a concentration of profits in a few large-cap leading companies make this sector particularly vulnerable to investor disappointment, even in the case of objectively satisfactory results. And according to estimates, the expectations are set quite high.

Alphabet is expected to maintain its streak of good results with higher earnings per share both quarter-to-quarter and year-to-year. The forecasted EPS is 1.32, or +9.2% higher y/y. The company's revenues are also expected to increase by +4.3% to $72.7 billion. On the other hand, analyst forecasts for Microsoft anticipate an even higher, as much as +6.9% y/y revenue growth to $55.5 billion and a +14.7% increase in earnings per share to 2.56.

However, the company that stands a chance to gather all investors' attention is Nvidia. This is no coincidence. Recall that not long ago, media attention was drawn to the fact that, on the wave of euphoria around AI, the company's capitalization exceeded the prestigious $1 trillion threshold. The company's management decided that the brand would become a real hub of artificial intelligence, and the applications of Nvidia's products are even seen in the drug discovery sector. Behind the grand promises also stand high expectations. Consensus assumes that the company's adjusted EPS will reach $2.05 per share, a mere 301% more than a year ago. Revenues are expected to reach $11 billion (+64.5% y/y). Interestingly, the growth momentum is supposed to be reflected in the quarterly data itself (EPS +87%; revenues +53%). Expectations are therefore high and time will show if these figures find their basis in facts.

Conclusion

The earnings season has a chance to be a key event for the sentiment in the second half of the current year. There are many question marks, and even more potential answers. One thing is certain, the market will be closely watching the incoming data, and active investors should maintain particular vigilance as this earnings season may bring many extreme emotions.

XTB Research