Tech earnings pull equities higher; have retail investors taken over the market?
Head of Equity Strategy
Summary: Better than expected earnings from Facebook, Tesla and Microsoft lifted equities to new local highs. The market seems for now to don't care about no company is offering any guidance and that Q2 is one big unknown. We also focus in this equity update on the increasing index weight concentration in S&P 500 and the evidence of retail investor bonanza driving sentiment in equities.
NASDAQ 100 futures were up 3.6% yesterday as technology earnings for Q1 continued to surprise positively. Sentiment is equities is strong and the NASDAQ 100 is now up 3.5% for the year despite the deepest recession since the 1930s is ahead of markets. On last night’s FOMC meeting and subsequent press conference Fed Chair Powell said that a V-shape recovery was very unlikely as society could go back and forth between opening up and locking down until a vaccine was found. Equities nevertheless powered on sending some technology stocks close to all-time highs.
While we understood the initial bounce back in late March from what was clearly an oversold environment due to margin calls we have been sceptical for weeks of the rally. But we have to accept the price momentum for now by the market and cannot rule out higher levels in equities until momentum has exhausted itself. We believe a big part of the price formation is driven by a retail investor bonanza which we will explain later on while institutional investors are more in a passive waiting position. With the end of April some larger institutional funds may consider rebalancing portfolios as the equity weights in portfolios have clearly gone up, so selling pressure from this investor group could arise in early May.
Also adding to sentiment in equities was a statement from Gilead Sciences that came back with an official statement on their drug Remdesivir for treating COVID-19 since the big debacle last week with Chinese studies at odds with US studies. Gilead’s press release on its phase 3 trial suggest faster recovery for patients compared to the control group. The FDA is considered an emergency approval for the drug already by Wednesday next week.
Earnings that moved the market
Facebook delivered a positive revenue surprise and EPS that was in line but what the market reacted to was the comment on the earnings call that the April advertising revenue had stabilised (see quote below). But it’s important to note that Facebook sees massive uncertainty and that since stabilisation could easily turn negative again as companies review their spending plans as the economy opens up.
“We experienced a significant reduction in the demand for advertising, as well as a related decline in the pricing of our ads, over the last three weeks of the first quarter of 2020. Due to the increasing uncertainty in our business outlook, we are not providing specific revenue guidance for the second quarter or full-year 2020, but rather a snapshot on revenue performance in the second quarter thus far. After the initial steep decrease in advertising revenue in March, we have seen signs of stability reflected in the first three weeks of April, where advertising revenue has been approximately flat compared to the same period a year ago, down from the 17% year-over-year growth in the first quarter of 2020. The April trends reflect weakness across all of our user geographies as most of our major countries have had some sort of shelter-in-place guidelines in effect.” (Source: Facebook press release)
Tesla beat revenue estimates for Q1 while also delivering a surprise net profit but the latter was more of technical character as the EV maker delivered a free cash flow loss of $900mn compared to a gain of around $1bn in the previous quarter. The company did not spend any time on COVID-19 and how it has impacted the business which was unusual. Instead the company boasted its investments in factories, self-driving technology and that it what sure it would deliver industry leading operating margins. The CEO and co-founder Elon Musk also spent time on the earnings call to call the US government ‘fascist’ and ‘undemocratic’ for closing his Fremont car factory hinting that the impact may be significant for Q2.
Microsoft is arguably one of the best monopolies since Standard Oil and managed to deliver once again beating estimates on top and bottom line and improved its operating margins. Microsoft said there was minimal net impact on the business from COVID-19 but did raise that it could impact the business going forward. For now many new work-from-home setups and faster transition to cloud for many businesses helped the core OS and productivity business while the cloud business Azure grew revenue 59% y/y.
No guidance leaves the market guessingSymptomatic for all earnings releases has been the skipping of any Q2 guidance and beyond. This means that investors are essentially flying as also companies have zero visibility as how the economic impact translate into business from here on. With the absence of information from companies we continue to argue that the best guess for future profitability remains the dividend futures market which for now is still only slowing improving trailing the excitement in equity markets.
Amazon and Apple
The next two technology and e-commerce giants are expected to be released after the close tonight with consensus expecting Apple to see revenue down 7% y/y and EPS down 9% y/y with products expected to be weak while their services segment is expected to have performed strongly. Consensus is looking for Amazon to see revenue up 24% y/y in Q1 and EPS up 28% y/y as the e-commerce and cloud computing giant benefitted from work-from-home policies and lockdowns. This is the last chance for bears to get their catalyst on the downside. If earnings from Apple and Amazon are strong sentiment could be bolstered even more.
Market concentration and retail investor bonanza
As we have been arguing for weeks it’s difficult to understand the behaviour in equities from a fundamentals viewpoint but we respect the market action. What we believe best explains the disregard of fundamentals is evidence that suggests that retail investors are entering the market at an unprecedented speed.
Charles Schwab has got 609,000 new client accounts in Q1 with half of those in March alone and record trading activity driven by zero commission on cash equity and ETF instruments in the US. It’s the same trend we observe among other US brokerages firms for retail investors and many retail investors were behind the catastrophic event around the USO ETF tracking front month WTI oil futures. Google Trend data suggest that the interest for equities have risen as casinos and sport betting have grinded to a halt due to the lockdown underscoring our view that the current market environment in equities is dominated by a bonanza of retail investors. But more problematic these investors typically don’t look at fundamentals but only look at charts and trades in names they can recognise which are often technology stocks.
Another worrying sign is the fact that the 10 largest stocks in the S&P 500 now account for 25.4% of the index the highest level since the absolute peak during the dot-com bubble. This means that the market pricing is driven by fewer and fewer stocks increasing the risk in the system. It basically means that the entropy is falling which is often not sustainable for long.
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