Inflation concerns dampen investor enthusiasm despite strong Q1 earnings

The Q1 2024 earnings report season started with the S&P 500 posting its worst week since October. It is a correction that was long due. US treasury bond yields are up and the dollar soaring in the vice of rising inflation and geopolitics. Weakness is driven by a third hot US inflation report, rising to 3.5%, and slashing 2024 Federal Reserve interest rate cut outlook to just two. Also the latest US retail sales report showing strong consumption is adding to the worries that interest will stay higher for longer.

By Bogdan Maioreanu, eToro analyst

So far, the prospects of the Q1 earnings season are looking good. After 6% of S&P 500 companies reported, 83% of them had positive surprises for investors. The big US banks offered all positive results. JPMorgan, Citi and Wells Fargo all surpassed financial analysts’ expectations. Goldman Sachs offered a positive surprise on first-quarter profit and revenue, growth fueled by a surge in trading and investment banking revenue.

But this good initial result is possible to be dragged down by the regional banks with earnings estimated down 20%. The reason for this is a combination of weak capital markets activity, margin squeeze as deposit rates catch up with lending rates, and higher precautionary loan provisions. But the overall financial sector earnings fall is being cushioned by strong 40% insurance industry profits growth. Markets are already looking ahead to a turnaround in net interest margins and better capital markets activity, leading to a possible bank stocks outperformance this year.

Europe is also preparing for earnings reports. Financials is the largest sector in the European markets and the source for 80% of the continent’s financing, which is the opposite of the US who gets its financing mostly from capital markets. Their growth and profitability is uniquely above US peers whilst valuations a third cheaper. As interest rates rose European bank valuations nearly doubled off their lows. Uniquely, European banks now have a higher earnings growth and return on equity than US peers. This is why investors’ expectations are high.

While investors are drawn toward technology companies, the reality of the portfolios is showing the greatest interest is for the financial services sector. According to the latest eToro Retail Investor Beat survey, financial services stocks are found in 64% of global and in 66% of the questioned Romanian individual investors portfolios. Technology is second with over 42% of investors having this sector stocks in their portfolios, followed by energy and real estate.