Each week, we tap the insight of Sam Stovall, Chief Equity Strategist for S&P Capital IQ, for his perspective on the current market.
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EQ: The government shutdown went into effect Wednesday as Washington failed to reach a compromise. Stocks responded positively to the news. What are your thoughts on the market’s reaction?
Stovall: You could say it’s a matter of sell on rumor, buy on fact. Also, it shows that investors now have an easier access to historical data. Back in the middle of December 1995 and into the early part of January 1996, the S&P 500 lost almost 4 percent in price, and ended up gaining more than 10.5 percent in the one month following the resolution to the budget standoff. So they’re thinking that maybe we’ll get a similar favorable response this time around.
EQ: There have been a lot of comparisons made to the last time the government shut down in 1995. How is the current market environment different this time, if at all?
Stovall: The economy was a little stronger back then, specifically in 1995. The U.S. economy had grown 3.4 percent in the third quarter, but as a result of the government shutdown, had slipped to a 2.8-percent growth in the fourth quarter.
Today, we estimate Q3 growth at only 2.2 percent, and Wall Street consensus is calling for a 2.0-percent increase in Q4 GDP, which obviously is now vulnerable based on the duration of the shutdown.
EQ: Are you surprised by how resilient the market has been when dealt with governmental and political issues such as the shutdown and sequestration? Has the market priced in the government’s dysfunction?
Stovall: Yes, I think Wall Street has basically said that it’s very tired of the boy who cried wolf, and they’re looking for a different performance from the expert dramatists of Washington.
EQ: Investors are also bracing for third quarter earnings season, and S&P expects EPS to grow by 3.5 percent. There seems to be a role reversal of the laggards and leaders from the previous quarter. What are some reasons for that?
Stovall: Whenever you do have challenging year-over-year comparisons, it makes for the current quarter to see a little bit of a slowdown, and vice versa. One of the best performing groups in the third quarter of 2013 is expected to be Telecom Services, which is expected to be up more than 26 percent on a year-over-year basis. One reason could be because full-year 2012 earnings fell 2.1 percent for Telecom, and you’re coming off of a year in which Telecom companies were very willing to provide incentives to purchasers of smartphones in order to lock them into their own networks.
Now a lot of those commitments are coming to an end, it is not having a negative an impact as it had last year. On the flip side, Financials saw a 22-percent increase in earnings in the third quarter of 2012, so not surprisingly, those comparisons are going to be a bit challenging for the third quarter of 2013. But I think we could end up being surprised because two of the major banks in Bank of America (BAC) and Citigroup (C) are expected to show an improvement in Q3 2013 results over last year’s numbers.
EQ: From a revenue perspective, do you expect to see the kind of top-line growth that has been lacking in previous quarters?
Stovall: If the second quarter was any guide, then we don’t have a lot to look forward to in the third quarter. However, S&P Capital IQ reported that even though revenues for the second quarter declined 0.7 percent, they are expected to rise 4.3 percent in the third quarter of 2013, and 4.1 percent in the fourth quarter. So I think most people on Wall Street have the expectation that we could be seeing an improvement, not only in corporate earnings in the second half, but also in revenues. So that would go a long way in confirming investors’ recent decisions to boost the market multiple or the P/E on future earnings that they’re willing to spend.