Why This Earnings Season Could Get A Little Wild…

It’s still a challenge, but I do remain cautiously bullish on the stock market. We experienced a 6% drawdown from the highs before a slight rebound, which you can see below on the chart of SPDR S&P 500 ETF (NYSE: SPY).

Beneath the surface, there are signs that there is a stealth bear market underway. As of last week, more than a third of the individual stocks in the S&P 500 Index were trading below their 200-day moving average (MA).

The 200-day MA is a long-term trend indicator. If a stock is above its MA, it’s in an uptrend. When a stock closes below its MA, it is officially in a downtrend. That level of 36.3% hasn’t been seen since October 2020.

At the current level, we are back to average. The 10-year average of this indicator is 34.7%. The past year has seen extraordinarily low levels of stocks in bear markets, and that has created a sense of complacency about risk.

With so few stocks diverging from the index, investors didn’t have to work very hard to find gains. Almost anything they bought was in an uptrend. Now, it’s a more selective market and stock selection will become more important.

This Earnings Season Could Be… Interesting

Analysts are expecting a great deal of good news this season. According to FactSet, the companies that make up the S&P 500 are expected to report earnings growth of 27.6% compared to the third quarter of 2020.

Of course, we know that most companies report actual earnings above estimates. Over the past five years, 76% of companies in the S&P 500 reported earnings that beat estimates. On average, they beat estimates by 8.4%.

If this is an average quarter, earnings growth would be more than 34%.

Earnings have been growing so fast this year because they are being compared to the results that companies reported during the pandemic. Since the recovery from the pandemic began last year, reported earnings have beaten estimates by an average of 19%. If earnings continue coming in at that pace, earnings growth will be 47%, making this the third straight quarter with earnings growth above 45%.

Traders are aware of all this. That is setting up a challenging few weeks in the stock market.

Traders are expecting companies to report earnings that are well above estimates. If a company misses estimates or fails to beat estimates by a significant amount, there could be a wave of short-term selling in the stock.

Companies may face challenges in meeting estimates this quarter, though. In the past three months, companies faced supply chain challenges. CNN reported on this problem, noting

Computer chip shortages. Epic port congestion. And a serious lack of truck drivers. The world’s delicate supply chains are under extreme stress.

The supply chain nightmare is jacking up prices for consumers and slowing the global economic recovery. Unfortunately, Moody’s Analytics warns supply chain disruptions “will get worse before they get better.”

“As the global economic recovery continues to gather steam, what is increasingly apparent is how it will be stymied by supply-chain disruptions that are now showing up at every corner,” Moody’s wrote in a Monday report.

And the report noted this will affect economic growth, noting that the IMF downgraded its 2021 growth forecast for the U.S. by one percentage point, the most for any G7 economy. Importantly, the IMF implied that the supply chain disruptions may be contributing to weakening consumption.

Higher costs are adding to the problems as The Wall Street Journal reported

Major food companies are boosting prices as they contend with escalating costs, and labor and transportation problems that are hampering the flow of staples to grocery-store shelves.

Makers of goods from french fries to meat snacks are working to secure trucks and staff processing lines, executives said, as costs for products as diverse as packaging and cooking oil rise. Companies including Conagra Brands Inc., PepsiCo Inc. and Lamb Weston Holdings Inc. are raising prices to keep up, they said, while striving to keep products in stores.

Then there are labor shortages and the impact of the Delta variant of Covid on sales and productivity in the past quarter.

Closing Thoughts

I expect this earnings season will be more volatile than average. This means we may have a hard time finding low-risk trades in the coming weeks. I’m still committed to finding them, but I will not compromise on safety.

That doesn’t mean it’s time to dig into financial statements just yet. With fear about a bear market relatively high, it’s best, in my opinion, to rely on technicals.

While I’m remaining cautious in this market, I’m still sticking to using my proven system that leads to thousands of dollars in reliable income every month…

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