Common stocks are meant to be inflation hedges, according to Finance 101, because companies typically pass higher costs on to customers by raising selling prices. But if they can’t, companies have to absorb the higher expenses, hurting profit margins.
The impact of inflation on earnings was Topic A here a week ago, as producer prices surpassed consumer prices, putting margins in the tightest vise since stagflation in years. 1970.
No wonder this has also been a priority for business leaders. Based on second quarter transcripts, “inflation” was mentioned by 44% of companies on earnings conference calls, according to a report by FactSet earnings analyst John Butters. It was the most since 2010, MarketWatch reported.
(symbol: FDX). Its shares fell more than 8% on Wednesday after a significant shortfall, due to rising labor costs exceeding strong earnings. This is the biggest one-day hit of the action since March 16, 2020, when it plunged more than 15% into the teeth of the pandemic-induced market collapse, as the economy was contracting severely.
This time, FedEx reported earnings of $ 4.37 per share for its first fiscal quarter ended Aug. 31, well below analysts’ consensus estimate of $ 4.88, itself just above the $ 4. $ 87 from the previous year. The company blamed the disappointing figures on a $ 450 million increase in operating costs “due to a tight labor market.” To compensate, FedEx said it will increase its shipping rates by 5.9% on average, effective Jan.3. Nonetheless, the company lowered its earnings outlook for fiscal 2022 to $ 18.25 – $ 19.50 per share from its June forecast of $ 18.90 to $ 19.90.
FedEx’s compression is anything but unique, writes our colleague Al Root. Costs rise throughout the supply chain, with the producer price index for intermediate goods (those with some processing) rising 23% in the year ended in August, over the double the 10.5% jump in PPI for finished products.
With third quarter results just weeks away, the key question is whether even more companies will face margin cuts as costs exceed price increases.
At least they’re starting from peak profitability, judging by the latest quarterly results. “Declared EBIT [earnings before interest and taxes] jumped more than 30% in the United States and more than 55% in Europe, âwrites Andrew Lapthorne, director of global quantitative research at SociÃ©tÃ© GÃ©nÃ©rale, in a research note. Strong sales growth outpaced cost increases, taking US profit margins to record highs and even improving depressed European margins, he adds.
But is it as good as it gets?
âProfit margins act like buffers,â Lapthorne continues. “If companies can absorb price shocks and trade disruptions in their income statement [profit and loss statement] instead of passing problems on to clients, logic is that short-term profitability is affected, but bigger issues, such as the need for tighter policies, [are] reduced. It’s clear that overall profit margins are healthy enough to absorb temporary pain, but it will be interesting to see which path companies take: defend their margins and risk inflation setting in. [or] let profits suffer for a while? “
This is what investors expect in these earnings calls.
To his press conference Federal Reserve Chairman Jerome Powell was unable to evade the issue of central bank officials’ investment and trading practices last week. As previously reported, the chairmen of the Dallas and Boston district banks held and traded securities in 2020 that were directly affected by the massive and unprecedented Fed purchases that spilled over to corporate and municipal bonds.
Powell addressed his own holdings of municipal bonds, which he said were bought long before the Fed entered the sector. He added that he would keep them until maturity and not trade them. But he didn’t mention the activities of Fed chairmen in securities such as real estate investment trusts that invest in mortgages, or closed-end leverage funds that invest in bank loans or other securities. of speculative quality. Both are directly affected by the Fed’s monetary policy decisions.
Powell has called for a review of investment restrictions for Fed officials. Obviously, securities related to finance should be banned. The same goes for anything that might be affected by political decisions.
What could it be ? I remember a conversation years ago with a longtime commercial real estate developer, who said he was not worried about a downturn in the real estate market. âGreenspan is just going to lower rates,â he said of the then Fed chairman, and will boost prices. Given the broad influence of monetary policy on a wide range of investments, the central bank must avoid the slightest appearance of conflict of interest. This would arguably cover even more than the publicly traded securities that have been the subject of recent disclosures.
Write to Randall W. Forsyth at [email protected]