Q4 Earnings Better than Expected – Market Top?

A new earnings season had started and thus far, results had exceeded the expectations. However, all three major US indices had been trading sideways for the past week, which is why we should start to ask whether better earnings might actually be a contrarian indicator. Today we focus on bank earnings, a tech preview for next week, and analyze what could happen if expectations won’t be met.

Q4 2020 earnings
Source: Investopedia

Banks outperform

Most of the large US banks reported better-than-expected revenues, on the back of trading-related income as well as a drop in credit provisions. However, even though the stocks cheered the initial highlights, almost all the gains were whipped out until Friday afternoon. We’re already accustomed to seeing such developments, especially when the outperformance is generated by an increase in trading revenue.

At the same time, we need to consider banks could be facing uncertainty over the next few months, as the fiscal support will gradually be reduced once economic activity gets back to normal. An insolvency phase could hit banks profit margins because a wave of defaults can be noticed each time a reflation phase starts.

Tech to follow on the same path?

Next week we have some of the biggest technology companies reporting earnings and their respective shares had been surging on the back of high expectations. Although tech had been a leading trade throughout 2020, a rotation into cyclical might not be favorable as we move forward. Also, higher interest rates can hurt the risk appetite, which in return can lead to underperformance.

That does not mean another tech rout can occur, but it could be the start of a larger move into beaten-down stocks. Microsoft, Apple, Google, and Amazon, are expected to report solid gains, but what happens if that fails to materialize?

Market vulnerable to any missed expectations

If that will be the case, it won’t be the first time we see stocks selling aggressively on the back of worse-than-expected earnings. Currently, the valuations had not only priced in better figures for Q4 but also upside adjustments for the forward guidance. Market participants will very likely monitor and account for what each company expects to occur for the following quarters.

Ultimately, we should not forget that on top of earnings, other variables can weigh on valuations. We still don’t know if stocks can go up if inflation overshoots this year. Also, what will happen if fiscal stimulus will turn out to be smaller than anticipated?

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