Over the past week, financial markets have experienced a noticeable calm, with the focus shifting back to the culmination of the US earnings season. Despite initial concerns about economic instability due to rising unemployment, the overall market reaction to individual company performances has been reasonably strong. While some companies missed their targets, the general sentiment has been positive, with results indicating that recession fears might have been overstated. Many commentators now suggest that the recent uptick in unemployment is likely due to an increase in the workforce rather than a decrease in job availability. This has helped to alleviate some of the market's recession worries, although it may also provide the Federal Reserve with a rationale to ease interest rates.

For now, the "Goldilocks" scenario—where the economy is not too hot and not too cold—seems to be in play, with most markets showing gains of a few percent. However, markets remain watchful, particularly with the upcoming release of the US Consumer Price Index (CPI), which could significantly influence market directions in the coming days.

Central Bank Movements

A key focus during this period has been on inflation data and its implications for the Federal Reserve's rate decisions. Earlier in the week, US Producer Price Index (PPI) data came in slightly below expectations. This bolstered the case for the Fed to consider rate cuts as early as September, leading to a rally in Treasury bonds and further gains in the equities market. Technology stocks, particularly Nvidia, saw significant surges. However, the markets remain cautious ahead of the crucial CPI release, which is expected to provide clearer signals on the Fed's future actions.

In Australia, the Reserve Bank of Australia's (RBA) stance on interest rates has been more conservative. Deputy Governor Bullock emphasised that, based on current assessments, conditions for a rate cut are unlikely to be met in the near future. The RBA remains focused on persistent inflationary pressures. Despite elevated wage growth at 4.0% year-over-year in Q2, which aligns with RBA forecasts, a gradual pullback in wages is expected, suggesting that inflationary pressures might linger. The National Australia Bank (NAB) Business Survey showed a slight improvement in business conditions, with a continued easing of inflationary pressures, but the overall outlook remains cautious.

Key points to note:

• US PPI data came in below expectations, hinting at possible rate cuts.

• The RBA is unlikely to cut rates soon, with inflationary pressures persisting.

• The NAB Business Survey indicated slight improvement but cautious optimism.

In New Zealand, the Reserve Bank of New Zealand's (RBNZ) policy decision was a focal point, with economists divided on whether a rate cut was on the horizon. This led to significant volatility in short-term Kiwi rates. As inflation expectations declined, the market began pricing in an 80% chance of an RBNZ rate cut, reflecting the growing uncertainty in the region's economic outlook.

US Earnings Season Recap

The US earnings season concluded with the S&P 500 reporting a robust year-over-year earnings growth rate of 10.8%, the highest since Q4 2021. This growth was largely driven by strong performances in sectors such as Utilities, Information Technology, and Financials. Despite the positive earnings growth, revenue increases were more modest at 5.2%, marking the 15th consecutive quarter of year-over-year revenue growth.

Individual company performances varied, highlighting broader market trends. For example, pharmaceutical giant Eli Lilly saw its shares rally by 9.5% after raising its annual revenue guidance by $3 billion, driven by strong demand for its weight-loss drugs. Conversely, Warner Bros. Discovery faced a 9% drop in shares following a substantial $10 billion loss due to write-downs. These mixed results underscore the market's heightened sensitivity to earnings surprises, with positive results receiving less reward and negative surprises being more harshly punished than usual.

As the earnings season wraps up, the implications for the broader economy are significant. The strong earnings growth suggests that corporate America remains resilient despite the economic challenges posed by elevated interest rates and political uncertainty. However, the mixed revenue growth and volatile market reactions indicate underlying uncertainties, particularly regarding consumer demand and inflationary pressures. This suggests that the market might remain slightly nervous and range-bound for the remainder of the year.

Australian Earnings Season Outlook

With the US earnings season behind us, the focus now shifts to the Australian reporting season. In its early stages, the local earnings season has been marked by a general decline in profits across several sectors, reflecting ongoing economic challenges. However, the market has shown resilience, possibly due to the fairly dour expectations set earlier.

Here are some key expectations for the Australian earnings season:

• A modest decline in profits of 2-3% for the 2023-24 financial year is anticipated.

• Energy sector profits have fallen sharply, contributing to the overall decline.

• Sectors like Utilities, Healthcare, and Industrials are expected to see gains.

Australia's top 200 listed companies are expected to report a modest decline in profits for the 2023-24 financial year, ranging between 2-3%. This follows a 2.9% drop in the previous year and marks the end of a period of "abnormally high" profits experienced during the COVID-19 pandemic. The energy sector has seen a sharp fall in profits, contributing significantly to the overall decline. Miners, banks, and consumer staples are also expected to report lower earnings, while sectors such as Utilities, Healthcare, and Industrials are anticipated to post gains.

The earnings report from Commonwealth Bank of Australia (CBA) has provided a glimmer of optimism, with results that have strengthened market sentiment. However, the response from analysts has been cautious, with many reaffirming or issuing sell recommendations. The bank's strong position in the mortgage market has been noted, but questions remain about its future growth prospects.

Mining giants like BHP and Rio Tinto continue to face challenges, primarily due to China's sluggish economic performance, which has dampened demand for Australian commodities. Both companies have seen their stock prices decline by nearly 5% this month, despite Rio Tinto reporting a 14% increase in net profit, supported by strong demand in its copper and aluminium segments.

Healthcare leader CSL reported results that exceeded expectations, accompanied by a bullish outlook. However, the mention of weaker performance in a recently acquired business unit led to a temporary 5% drop in its stock price before a partial recovery.

The most closely watched sector during this earnings season is retail, as it serves as a barometer for consumer sentiment. Retailers like JB Hi-Fi and Myer have reported mixed results, with JB Hi-Fi outperforming (albeit weak) expectations and being rewarded by the market despite a 16% drop in earnings.

Looking ahead, after two years of declining earnings, the Australian market is expected to see a rebound with an overall growth rate of 4.8% anticipated in the upcoming financial year. Analysts will be paying close attention to company guidance on consumer spending and input cost pressures as the earnings season progresses.

Looking Forward

As the markets continue to navigate through these economic uncertainties, the key question remains whether the Federal Reserve and other central banks can engineer a soft landing for the economy while taming inflation without triggering a significant downturn. Tonight’s CPI print will be a crucial piece of this puzzle, and its outcome will likely set the tone for market movements in the weeks ahead.

The past week has shown that while the markets have steadied, there remains a cautious optimism tempered by underlying uncertainties. As the Australian reporting season unfolds, it will be essential for investors to keep a close watch on earnings reports, guidance, and broader economic indicators to make informed decisions in this evolving landscape.