The S&P 500 closed August up 7%, pushing the index above its pre-COVID high set in February. Market momentum continued to accelerate from prior strength. Technology stocks and large-cap stocks continued to lead the market, maintaining the 2020 trend. However, in a positive sign for the broader market and economy, some more economically cyclical sectors showed strength in August as financial and industrial stocks registered solid monthly gains. Energy and real estate stocks remained in a stall but represent a dwindling portion of the S&P 500 and Dow Jones Industrial Average indices.
Corporate earnings season is a roughly 3-4 week period that occurs a few weeks after each quarter end. In normal times, it is a period of heightened volatility as companies report past financial performance and issue commentary on future expectations. As we all know, COVID created tremendous economic and financial uncertainty. Most companies reported their 2nd quarter financial results in July and early August. While results varied widely by company and sector, broadly speaking, they exceeded fears. S&P 500 revenue declined 8.8% year-over-year: an ugly number but better than many on Wall Street had been calling for. Corporate earnings season also provided much-needed insight into the economic rebound as many companies began reissuing expectations on future results. With both clarity on the damage inflicted and an indisputable rebound intact, the market continued higher.
One of the more surprising features of the current recession vs historical ones is how well corporate profit margins have held up. S&P 500 net profit margins nearly halved in 2001 vs 2000 and declined over 75% in 2008 vs 2007. In the second quarter of 2020 S&P 500 net profit margins declined “only” about 25% according to FactSet. As companies emerge from the COVID recession with leaner cost structures and rebounding revenues, margins are likely to make up their lost ground. Thanks in part to tremendous fiscal and monetary support, America’s 500 largest public companies (the S&P 500) have proved to be more resilient than in past recessions.
One likely explanation for the relative resilience of profit margins in the current recession is the shift in consumer spending habits. Historically, recessions have featured large declines in consumer spending on goods relative to services. COVID and the resulting lockdowns have caused the exact opposite effect. Goods spending is already above February levels, helping fuel a rapid rebound in manufacturing – typically an industry that is very slow to recover.
-Jared J. Ruxer, M.S.