Earnings season to test surge in stocks with profit reports to be ‘patchy’

The February reporting season will put high-flying share prices to the test, with investors anticipating flat interim earnings growth amid a soft economic landing.

The February reporting season will put high-flying share prices to the test, with investors anticipating flat interim earnings growth amid a soft economic landing, with resilient labour markets and consumption.

“Generally, it’s looking better than we have thought and consensus expectations have moved to reflect that,” Atlas Funds Management chief investment officer Hugh Dive said.

Interim profit forecasts are for a modest 1 per cent increase in the first half of the 2024 financial year, which ended on December 31 for most Australian companies, but a 4.5 per cent fall for the full year, according to Bloomberg data.

“It will be a bit patchy,” Mr Dive said. “Some companies are doing quite well but many aren’t.”

With the recent market rally, driven by optimistic expectations for interest rate cuts, pushing share price multiples as high as 16.7 times 12-month forecast earnings, analysts have upgraded earnings estimates, according to Bank of America strategists.

After dipping to a valuation of about 14 times forecast earnings, the market’s price multiple is now near the upper end of its historical range. Earnings season will show whether the higher prices are ­justified.

The upgrades have been mainly among companies in rate-sensitive sectors such as banking, real estate and insurance, according to the investment bank. Among the materials, industrials, consumer discretionary and healthcare sectors, downgrades have outnumbered upgrades.

Resilient commodity prices have helped too, given some of the “analysts had sub-$US100 iron ore prices (embedded in their forecasts) and oil prices falling to $US65, and neither of those happened”, Mr Dive said.

“I’m generally optimistic going into this reporting season,” he said, adding that recent first-quarter updates had been slightly better than expected. “And by now, pretty much everyone has confessed, so there shouldn’t be more confessions left.”

That included announcements last year of market share gains at electronics retailer JB Hi-Fi, stable insurance claims at QBE, traffic metrics above pre-pandemic levels at listed toll roads operators Transurban and Atlas Arteria, and a positive update from Wesfarmers on hardware, office supplies and dis­counted retail outlet sales.

The February earnings season will begin this week, with debt recovery group Credit Corp releasing second-half earnings on Wednesday, when lithium and nickel producer IGO is also due to release first-half earnings.

With inflation easing, earnings reports will be watched for hints of continued pricing flexibility and demand trends. Investors will also focus on whether cost growth is moderating.

“The ability of companies to keep prices going up is starting to normalise, so this season the market will be asking: can the ability of companies to price well continue?” said Shih Thin Wong, chief investment officer at Prime Value Asset Management.

“We are also looking for ­evidence that costs are starting to ease to become tailwinds, not headwinds.” That was particularly relevant for the healthcare sector, which has been riddled by high labour costs in recent years, he said.

Stress indicators will be a focus, as will outlook statements from cyclical companies in the consumer, building materials and media sectors, as the potential for lower rates should benefit them.

The start of the local reporting season will follow December quarter earnings in the US that have been largely positive.

About a quarter of the companies have published results and 78 per cent have delivered positive earnings surprises. Overall, however, US earnings are on track for a 2 per cent year-on-year fall, AMP economists estimate.

Several ASX-listed companies have recently released trading updates ahead of their interim results, including pizza franchisor Domino’s Pizza, jeweller Michael Hill, business lending specialist Judo Bank and fuel and convenience retailer Ampol.

Judo guided to higher earnings from strong demand for credit, while Ampol said it expected record profits.

Michael Hill flagged a sharp deterioration in first-half earnings and said it would close underperforming stores. At Domino’s, a badly timed expansion into Asia led to the scrapping of its full-year profit guidance, despite branches in Australia and New Zealand delivering their best sales in six years. The update sent Domino’s shares down 31 per cent.

Among the banks, only Commonwealth Bank, the nation’s biggest and one of the most expensive banks globally, is due to release half-yearly results, on February 14.

Analysts expect it to post a 3.5 per cent fall in interim cash earnings to $4.97bn, dragged down by lower margins and higher costs, but lift dividends by a modest 3 per cent.

Investors are likely to scrutinise the trajectory of CBA’s margins, bad debt metrics and costs.

Interest rate cuts from the current 4.35 per cent rate are likely to lower funding costs, fuel credit growth and give CBA and other banks the opportunity to pocket some of the cuts by not passing them in full to home borrowers. Cuts could also trigger marginal improvements in the spread between mortgage rates and the rates offered to depositors.

The recent rally in bank shares “suggests share prices are largely reflecting the potential benefits of rate cuts … and a more optimistic outlook for the Australian economy and banks’ earnings over the next two years,” Morgan Stanley told clients in a note.

The other three majors have a different financial calendar and will only publish updates with ­selective figures for the first quarter ending in December. Macquarie will also release a quarterly update on February 13.

Among the smaller lenders, Bendigo and Adelaide Bank will report half yearly results on February 19. Suncorp prints its interim accounts on February 26, six days after the Australian Competition Tribunal is due to publish its decision on whether to approve ANZ’s $4.9bn bid for Suncorp’s bank on February 20.