ASX earnings season outlook one of the worst in the world

Strategists believe investors are drawing the wrong conclusions from the so far resilient markets.

The August reporting season is nearly here.

Earlier this year the February results season took place at the pointy end of a very strong sharemarket rally.

Back then, corporate results did not shine, on average, and instead provided plenty of reasons for sharemarket momentum to deflate.

The big takeaway from that season, I believed, was that no fewer than 49 per cent of reporting companies required a pick-up in the second half to meet either their own guidance or market forecasts.

Since that time investors have since witnessed the return of the annual “confession” season when management teams concede they won’t meet targets or expectations.

When we consider almost half of our listed companies needed a lift to justify their share price, it is probably a miracle confession season to date hasn’t brought out more warnings and brutal reassessments.

Why has confession season been so benign?

It can be explained in a multiple of ways, including the scenario whereby companies might just keep the disappointment until the day of result release.

Ominously, the two sectors that delivered major upside surprises in February were discretionary retailers and REITs – the two sectors that have since suffered the most as downward pressures revealed themselves later on.

CSL’s factory at Broadmeadows in suburban Melbourne. Picture: Tim Carrafa

Equally surprising, CSL was at the time nominated as having delivered one of the standout financial performances in the month, yet four months later management issued a profit warning which has pulled down the share price to a level last seen in early 2022.

All in all, most experts labelled corporate Australia’s results at the time as a “mixed bag” and even without a subsequent crisis for regional banks in the US, it was obvious operational results were simply not good enough to support ongoing market enthusiasm.

Fast forward to mid July, less than a full month from when we get the full impact of reporting season, and profit forecasts have been reduced noticeably while the likes of Amcor, CSL, KMD Brands and others have updated with disappointing numbers and forecasts. Although they are nothing like what was possible in terms of worse case scenarios.

Irrespective of reductions to date, just about every expert across the globe maintains that analysts’ forecasts for revenues and profits are still too generous.

And once more It has also been observed profits in Australia appear more vulnerable than elsewhere.

This higher vulnerability inspired global strategists at Citi to put Australia in the “underweight” basket.

Keep in mind that Citi is positive on global sharemarkets, with the in-house view anticipating economic recessions and relatively resilient corporate margins and profits, but the Australian market is considered too weak to be included in Citi’s cautious optimism.

The broker guide

With EPS growth hard to come by, and dim-looking prospects for the year ahead, UBS analysts have identified four questions that are likely to colour the upcoming season in Australia:

● Is the consumer crunch happening?

● Are labour costs beginning to break out?

● Can profit margins be maintained?

● Are interest expenses manageable?

UBS point out that our unemployment rate remains near an historical low. With the average wage bill projected to increase by 10 per cent annualised, consequently corporate costs might feature as a major headache next month.

Shorter-dated bonds have risen significantly in the year past, suggesting companies are poised to report higher-than-expected interest expenses. Profits might feel the pinch both from rising costs and from declining sales, even if companies can keep their margins intact.

Given the subdued macro-outlook and context, UBS’s expectations for August are low. “We see the ASX as flush with companies that have promise and opportunities, but upbeat stories are likely to be largely dismissed over the next month,” it said.

“Instead, attention will focus on a decelerating economy, a strained consumer, and the lagged effect from the Reserve Bank’s hiking cycle which began a year ago.”

Against a background of negative EPS growth locally, current market forecasts are for average 10.9 per cent EPS growth for the world, with 9.8 per cent growth for developed markets and 18.1 per cent for emerging markets. The corresponding number for Australia, as things stand, is negative -3 per cent.

A closer look into the underlying components does reveal Australia‘s growth prognosis is heavily weighed down by the energy sector, followed by still negative forecasts for materials (miners) and financials (in particular the banks) whereas utilities, healthcare, industrials, IT and communication services all seem poised for strong, above-average growth.

A heavily bifurcated market is like a knife that cuts both ways. Local strategists at Morgan Stanley already made the point the Australian economy is running on variable speeds, with tighter conditions having the most impact in Victoria.

This might add a regional flavour on top of your usual sector and corporate quality qualifications.

Market strategists seem to think investors are drawing the wrong conclusions from resilient markets up to this point. It’s a slow-moving process but this still implies the worst is yet to come.

Macquarie strategists predict that by year end, the consensus FY24 EPS growth forecast will be closer to -10 per cent, implying things will worsen a lot, and rapidly too, in the months ahead.

Macquarie reminds investors that in August last year twice as many companies guided below consensus forecasts, which translated into negative share price outcomes.

Were this to repeat for defensive and growth companies this year, Macquarie would be ready to start buying their shares

Rudi Filapek-Vandyck is editor at investment service FN Arena