The market has had a muted response to the Greek election results. The S&P has traded between -0.5% to +0.2%. I have read some commentary this morning regarding little concern over EU exit contagion pointing to the rally in Spanish and Italian government bonds. I disagree with this assessment. The price response of these securities should not be viewed as a read on the market pricing of EU exit contagion, because the ECB just announced its new QE program last Thursday which included purchases of up to 33% of each sovereign's debt. The new Greek coalition government of left-wing and right-wing anti-austerity political parties leaves little doubt about the new government's intent on reversing austerity imposed by European leaders. This election opens a whole spectrum of risks the market was not focused on last week. This negotiation between Greece and it's European creditors is bound to be drawn out with brinksmanship from both sides. I view this as market negative.
This week is a busy earnings week with 140 S&P companies reporting. Apple (AAPL) on Tuesday will set the tone for the week. If earnings are good, then the market might be able overcome the geopolitical headline risks to eek out a gain this week. I view the geopolitical headline risk as a formidable impediment to the market pushing up to a new high. If earnings are strong, I see the market potentially rallying 1-2%, but I am skeptical a sustained rally will occur given the current geopolitical uncertainties, not only out of Greece, but also Ukraine and Russia. If earnings and guidance turn out to disappoint, the S&P might fall back below 2000, down 2-3%. I am looking to the earnings as my guide to the market's direction, but I view the upside to be more limited than downside at the current time.
The energy sector (up +1.4%) is leading today's rally. Oil is up +0.8% after opening down -1%. The S&P forward pe is up to 16.6x, due to downward revisions to energy sector earnings estimates. The energy sector now has a 22x forward pe. Growth in sales and revenue from the health care and tech sectors could be a positive catalyst. Without some positive earnings reports and positive guidance, I fear the market will gravitate lower given its full valuation and limited earnings growth. I see earnings expectations are for only 2% earnings growth in Q1 and Q2. Expectations are for a pick-up in earnings growth to 7% in the second half of 2015, but these estimates will likely be revised lower.
I liked the earnings reports from SWKS and ALK last week. Semiconductors and airlines have been 2 areas of strength, and I expect this to continue.
Michael Grove, CFA