Q2: Best Performance in 22 Years, Now What?

After a dismal first quarter which saw the S&P fall by 20%, stocks roared back in the second quarter and the index turned in its best quarterly performance since 1998. As of the close on Monday, with one day to go in the quarter, the S&P was up 18.13%. Despite the huge gain in the quarter, the S&P is still down slightly for the year.

Looking at the sector SPDR ETFs and their performances for the second quarter, there were five that have gained more than the S&P and five that have underperformed the index. The energy sector led the way in the second quarter with a gain of 28.96% and it was followed closely by the consumer discretionary sector (+28.87%) and the tech sector (+28.07%).

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The utilities sector was the worst performer during the second quarter with a gain of only 2.31% and it was followed by the consumer staples sector with a gain of 7.7%. Those two sectors are considered safe-haven sectors and were the only two that failed to gain at least 10%. This makes sense with the second quarter being such a risk-on environment for equities.

If we look at the quarterly returns as well as the year to date returns, we get a much different picture for the top and bottom performers. Despite the huge gain in the second quarter, the energy sector is by far the worst performing sector on a YTD basis with a loss of 36.19%. The financial sector is down 24.72% for the second worst performance on the year.

The tech sector is the top performing sector on the year with a gain of 12.87% and only two other sectors are even in positive territory—consumer discretionary (+1.26%) and communication services (+0.13%).

I have my concerns about the bounce-back rally that has occurred off of the March low, but there have been some economic indicators that are showing that a recovery is under way. Of course, the figures that have been coming out showing improvement were taken before the recent spikes in COVID-19 cases in many parts of the country. Now some states are having to walk back some of the reopening measures and we could see the economic reports won’t continue to improve as we enter the third quarter.

One of the things that has been on my mind of late is the next round of earnings reports. The first quarter results shouldn’t have been affected by the economic closures very much since most states didn’t act on closures until April, or at the very least it was in late March. The second quarter results are going to reflect a period where most states had some sort of business closures in place due to the current health crisis.

Those earnings numbers will start coming out as early as July 8 when Delta Airlines (NYSE: DAL) will report. The earnings season will really get under way the following week when big banks like Bank of America (NYSE: BAC), Citigroup (NYSE: C), and JPMorgan Chase (NYSE: JPM) will all report.

This is my 20th year in the investment publishing industry and I can’t remember a time where there has been so much uncertainty surrounding an earnings season. In the 2000 bear market and after the attacks of 9/11, investors seemed to brace for poor earnings results and were prepared for declines in earnings. The same thing could be said for the recession and bear market from 2007 to 2009. Investors saw the writing on the wall to some degree and then earnings still surprised to the downside and we saw massive selling.

For this coming earnings season, it’s anyone’s guess as to which companies will see earnings decline and which companies will issue positive surprises. Some companies appear to have benefitted from the stay-at-home economy while others have obviously been hurt badly. We think of names like Amazon (Nasdaq: AMZN) and Zoom Video Communications (Nasdaq: ZM) that have seen business increase as a result of the shutdowns. But then companies like Darden Restaurants (NYSE: DRI) and Bloomin’ Brands (Nasdaq: BLMN), the parent company of Outback Steakhouse, have been decimated by restaurants being shuttered.

Those are the more obvious situations, but what about banks? How have they done with economic activity slowing? What about industrial companies? Sure companies like Delta Airlines and other airline companies have been hurt as so few people were willing or able to travel during the second quarter.

My advice to investors is to take inventory of any individual stocks you are holding and really take time to assess how the economic environment during the second quarter would have impacted that business. Then you will want to look at the EPS estimates for the upcoming report to see whether or not you think it accurately reflects any adjustments for the loss of business or a gain in business. If you think the company probably saw a decline in business during the quarter and the EPS estimate hasn’t been ratcheted down, those are the kind of scenarios you want to avoid.

The biggest declines in stocks tend to come when investor expectations are high and then the actual results are disappointing. With all of the uncertainty surrounding the economy over the past few months, I can see big swings in some stocks—both to the upside and to the downside. I look for the volatility to continue as a result of the second quarter earnings season.

About Rick Pendergraft

Rick has been studying, trading, analyzing and writing about the investment markets for over 30 years. He has worked for some of the largest financial publishers in the world and he has been quoted in the Wall Street Journal, USA Today, the New York Times and the Washington Post. In addition, he has been interviewed on Bloomberg, CNBC and Fox Business News. Rick’s analysis process includes fundamental, sentiment and technical analysis. Rick started college as an education major, wanting to teach economics, but eventually changed to majoring in Economics and received a Bachelor of Science in Economics from Wright State University. His desire to inform and educate people is at the heart of his writing.

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