Heading into this Friday’s US 3Q GDP (est 2.3%) and Sep core PCE (est 5.2%) numbers, 10 year TIPS (Treasury inflation-protected securities) yield is sitting at 1.66%, highest level since early April 2010 when CPI was at about 2.3% that is significantly lower compared to the most recent CPI 8.2%. This TIPS yield also seen as real yield has risen up all the way from -1% at the beginning of this year and the YTD performance of the related ETF – iShares TIPS (TIP) is -14% that is better than S&P 500 (SPX) -20% return still in bear market territory but the former also failed to protect against inflation that persisted at high level in 2022, neither did gold (XAUUSD) with slightly better -10% return.
Soaring risk free real yield continues to make other major risky asset classes – equities, high yield corporate bond & bitcoin - not only less attractive but also more expensive dragging down their value. Bitcoin (BTCUSD) that is the only non yielding one among the three hence its YTD return reflects the damage down already with approximately -60% even though $19,000 has shown a lot of resilience as a support area for four months.
Comparison of the risk premiums over US 10 year treasury yield between credit spread (junk corporate bonds below BBB-) and SPX shows divergence as the SPX earnings yield (inverse of PE) still relatively low or in other words, the PE multiple is still quite rich at 18.5 times with earnings of $205 based on the last night’s close 3,797. In fact, the risk premium of SPX is now 50 bps lower than IG (investment grade) credit spread and the last time this happened was back in December 2009.
So far just over 100 companies in SPX reported and aggregate earnings surprise is +4.4% with sales surprise of mere +1.2% that is less than half of 3Q 2020. However given the financial (11% weight) is the only sector that had more than half its companies reported, we are far from getting a real picture of the outcome and outlook as this week we look ahead the earnings release (after market close) of MAMAA – Meta (Thu), Apple (Fri), Microsoft (Wed), Amazon (Fri) and Alphabet (Wed). These five stocks make up nearly quarter of the whole $33T SPX market cap hence VIX still hovers around 30 in the anticipation of any potential downside risks even though a bulk of the main macro backdrops – declining demand, rising costs, high inflation and interest rates – look to have been embedded. All sectors have YTD negative returns except energy with the sectors that include MAMAA are the three worst performers – info tech (-28%), consumer discretionary (-30%) and communication (-36%) - alongside real estate with -33%.
Tesla (TSLA) was the first mega cap stock that has already reported last week and despite some impressive YoY growth figures – 56% sales, 103% earnings, 148% free cash flow - being a cyclical growth stock with high multiple of 65 times, the reaction has been nothing but negative breaching pre split $600 (post split $200) for the first time since 16 June 2021 and also raising concerns of further weakening demand as it announced price cuts for its cars in China. Similarly AMZN could also be vulnerable to any miss to the estimates particularly to the revenue numbers given their low margin that has been falling even lower.
For META and GOOGL (GOOG), disappointing results (slowest quarterly sales growth) from Snap (SNAP) last week should provide some indication of recession sensitivity in terms of advertising spending from the businesses and ongoing competition impact from TikTok. However potential buy-the-fact price action cannot be ruled out by long term bargain buyers for META which has the highest earnings yield of nearly double digit among MAMAA with estimated free cash flow yield of more than 5%.
AAPL and MSFT – both in IT sector - are the two biggest stocks in SPX and they share two things in common with similar yield of about 4% and only two of MAMAA that pays dividends yielding 0.6% and 1% respectively. This is small compared to 3 months treasury yield at 4% but given both high dividend and low EV/EBITDA were the two major factors behind the outperformance, these dividends are expected to remain as a additional buffer for these stocks to navigate through high interest rate environment with strong US dollar which is one of the major factor to watch this earnings season. Double digit sales growth might come to an end for MSFT despite having balanced revenue streams, while main focus for AAPL is expected to be iPhone sales – that takes nearly 2/3 of the total revenue - outlook including the holiday season considering it already reported the production cut on the iPhone 14.