In tune — Week of May 3, 2021

As of market close April 30, 2021. Returns in percent.

In tune

What looked like a boring, sideways market last week strikes us as a good sign. The major indices traded all week in a narrow range, with several giving up 1% or less. Underneath the headlines there was plenty of good news, in what proved to be the busiest week of the year.

But, you protest, the S&P 500 was flat on the week, and the Dow Industrials wandered sideways until Friday – how is that busy? Ah, we had the largest number of earnings releases in what is the most scrutinized quarter of the year. Fed Chair Powell’s press conference kept the monetary spigot open, and President Biden’s speech tried to keep Congress’s fiscal spending flowing. And finally, it was the busiest week of the month for economic news – and it was all good. 

How about 5% returns for the NASDAQ and S&P 500 for April? The Dow Industrials also “outperformed” history. April is the best month of the year since 1950 for all the big indices. Returns average between 1.5% and 2%, so even the Industrials won this year. Note the tech-led resurgence in performance this month, versus the first quarter. In the first quarter the Recovery theme dominated returns with Growth’s paltry 0.8% trailing Value’s 10.8% resurgence. The script flipped back to Steady Growth in April, and the Russell 1000 Growth index returned 6.8% in April versus its Value counterpart’s 3.8%.

So, what to make of last week after April’s rousing success? History does rhyme, according to Mark Twain, and the last week of April is usually a downer. Small cap stocks only giving up 0.23% on the week is a win. The big stock indices followed an almost summerlike pattern: rally on the open, drift during the day and sell-off into close. Most of the listless action was due to traders watching earnings. Sentiment remains very elevated, and valuations are high. Sentiment relies on short-term emotion and can change with a news event or the weather. Valuations will not start to come down until second-quarter earnings confirm estimates of +30% earnings gains for all of 2021. Result: we are in a consolidation period that requires patience. Viewed through the lens of sentiment, valuation and exhausted trend, the markets are in tune with the season. 

And wow

Those are some impressive earnings reports. Big picture first: halfway through earnings season, 86% of the S&P 500 has beaten earnings expectations. FactSet tells us that in the average quarter, 74% of companies beat their estimates. More important, the beats are averaging 22.8% above their estimates. Most of the time companies guide analysts close to their actual earnings. Over the last five years, FactSet reports the average beat is around 6.9%. Companies are posting surprising results, and at a much higher rate than normal. Some of the wins should be expected; after all, many industries ground to a brief halt last year. Work-from-home and delivery services are knocking it out of the park. UPS posted adjusted earnings of $2.77 a share Tuesday; analysts had estimated $1.30. Sales jumped 27%, and the stock jumped 10%. That pop pushed the Dow Jones Transport index 1.4% higher.

Alphabet, parent of Google, is still in the money-printing business. Lockdown online activity drove first-quarter sales by more than a third higher year over year. That created a record $55.3 billion in revenues dropping down the income statement to $26.29 per share in earnings. That is a 67% beat over analysts’ estimates of $15.74. Apple’s revenues rose 54% on higher iPhone sales and surprising strength in China. The firm raised its dividend and announced upgraded products. One negative: Apple is cutting production of AirPods by around 25% later in the year due to competition. Both Apple and Alphabet increased their share buyback programs. Microsoft also did very well, posting $1.95 in adjusted EPS versus $1.78.

We expect the good news from the first quarter to continue this week. One-hundred thirty-seven S&P 500 names report this week, including Diamondback Energy, CVS and ConocoPhillips. The next Dow Industrials component to report will be Walmart on the 18th, which marks the unofficial end of earnings season. 

America runs

Actually, the world runs on microchips, not Dunkin’. Whether it’s the $3 microprocessors that monitor engine performance or the $1 chip that drives the car navigation screen, the world has an insatiable demand. Supply problems continue to pile up for manufacturers in Asia and the U.S. First the virus shutdowns stopped production in Asia. Then U.S. ports limited the number of workers, slowing supplies. Now Taiwan reports that the severe drought may cause water rationing. Water is a key input for silicon chip manufacturing. Every major auto manufacturer has announced plant shutdowns of varying degrees; now heavy truck makers are also having problems. According to Whirlpool’s CEO, appliance makers are next. Oh, for the days when our Kenmore fridge just needed Freon. 

Gross up

First-quarter Gross Domestic Product rose at a 6.4% annual rate, well ahead of the 5.6% consensus. Over the last 20 years an annual rate of 3% was considered outstanding, and 1.5% has been the norm. The economy is recovering in “V” shaped fashion, and we are now less than 1% below the economy’s level of December 2019. This is truly a remarkable achievement. Recall that a year ago, the U.S. GDP fell 15%, and economists feared it would take over a decade to return to its potential growth level. Now the pre-2020 potential will be reached within weeks, and the recovery will be complete by the end of this quarter. The early fiscal stimulus and monetary support from the Fed helped restart the economy last year. 

The internals of the GDP report were impressive. Private Domestic Final Purchases is a mouthful measure that is the sum of consumer spending (up +10.7%) plus business fixed investment (+9.9%) and residential fixed investment (10.8%). In simple terms, PDFP is the total of what we do inside the United States. That measure rose at a 10.6% pace year over year and is now above 2019 levels. 

Vaccine rollout and the last round of stimulus boosted first-quarter results. This quarter will be the first in five with practically no shutdown orders here in the U.S. Freedom to move about combined with 100 million vaccinated adults means this quarter should produce as good or better growth. If more workers leave the unemployment rolls and start cashing paychecks, a growth melt-up becomes a tantalizing possibility.

Wrap-up

We are mindful that all the good news from earnings and recovery are already history. Folks still must get out and spend, place orders, and wait for goods to be shipped. Most of the growth in personal income is due solely to stimulus checks, not higher wages. Meanwhile, India is in the throes of the worst of the pandemic, and Europe is facing a short double-dip recession from lockdowns. 

Stocks look ahead and are waiting for more growth from the “real world.” Indeed, European indices have set new highs preparing for the end of recessions there. Interest rates remain low but are starting to respond to higher supply by rising slightly. The Fed remains on hold, and it will be months before President Biden’s bold spending plans make their way through Congress. For now, our focus is on winning the Recovery and moving back into Expansion.

Steve Orr is the Executive Vice President and Chief Investment Officer for Texas Capital Bank Private Wealth Advisors. He holds a Bachelor of Arts in Economics from The University of Texas at Austin, a Master of Business Administration in Finance from Texas State University, and a Juris Doctor in Securities from St. Mary's University School of Law. Follow him on Twitter here. Greg Kalb is an Investment Advisor at Texas Capital Bank Private Wealth Advisors. He holds a Bachelor of Arts from The University of Texas at Austin.

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