So far, so good. The quarter is not a disaster and stocks are going up on genuine beats (FAST, HON, DOV). But they are going down on not so good news (TXT, SNA) and our 3Q distributor survey indicates that the next wave of reports will bring more "not so good news". At these multiples (16.5x NTM EPS), earnings achievability matters and we do not want to get ahead of the inevitable EPS cuts. We like AME and UTX into prints. We remain tactically cautious PH, ROK and LII.
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Earnings season kicks off this week with Honeywell and Dover reporting on Thursday, alongside several others (Textron, Snap-on, URI). So, we will get a good feel for how the quarter is forming for the broader universe. We generally see solid trends for HON and DOV with FY19 guidance reaffirmed at the high end, as we highlight below. Some investors have asked us if we are concerned that the quality bar could be higher for these early reporters? Our answer is a little - sometimes the messenger does get shot - but we will likely emerge with street expectations intact. This is key.
We highlight an expanding price/cost gap - the best since 2015/16 - as we head into 3Q19 earnings. The mini trade deal announced on Friday (10/11/19) is mini good news; clearly, it does not change much quantitatively, but it does open the door to more substantive developments in the future. This might suggest lower probability of recession in 2020, but does nothing to change our view that 3Q19 will be a catalyst for negative estimate revisions for the EE/MI group.
We had a tremendous response to our 3Q19 Sentiment Survey and I would like to thank those who participated. I can’t thank you personally as the survey truly is confidential!
This quarter will likely bring another step down in growth rates as the global economy enters a synchronized slowdown that takes GDP into stall speed. We remain aligned to the growth pockets and reiterate that it is too soon to rotate into short cycle end markets ahead of the inevitable EPS cuts. We are most positive on AME, UTX and DOV into the prints; most cautious on ROK, PH and LII.
We remain drawn to the growth pockets of A&D, Healthcare, Renewables, T&D and E&E, to which GE, UTX and HUBB are most levered stocks. We are simply not seeing the second derivative inflection in short cycle markets that would give us confidence in the 2020 outlooks; in fact, quite the opposite. We are seeing positive momentum in US Residential FAI and Power Generation.
Our detailed review of the global macro reveals a synchronizing slowdown as exemplified by sub-50 PMIs across all major blocs. Central banks are turning increasingly dovish, but global GDP is now at stall speed and we see risk of material cuts to EE/MI consensus revenue/EPS into 4Q and 2020. We remain defensively positioned and would only consider enhanced cyclical exposure following a sector correction.
Lower rates continue to weigh on GE sentiment and so management needs to consider aggressively funding this liability, given its materiality and tax benefits related to pension contributions. Elsewhere, 3M faces the highest headline EPS sensitivity (~4%) from lower rates.
Cap Goods bounced last month, partly due to the sub-50 ISM reading that was seen as a buy signal. As such, the market was wrong footed by another big ISM step down, reported yesterday. Given how weak the macro data points have been, this tells us there is too much complacency priced in and so we weigh tactically cautious into the upcoming quarter.
We saw another small step-down in global Cap Goods momentum during September. This is a not a cliff falling moment, but more a gentle walk into flat/LSD revenue declines. We remain tactically cautious short-cycle, since valuations do not compensate for greater EPS risks short term. We think that negative capex guidance from Micron somewhat endorses this concern.
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