Analysis: Earnings expectations under downward pressure
By Rob Griffin
13:46, 19 October 2021
Earnings expectations for UK and European companies reporting their results over the next couple of months are coming under significant downward pressure.
The combination of high energy prices, tapering expectations and the prospect of higher inflation is making life challenging, according to Liberum, the independent investment bank.
In a report seen by Capital.com, it pointed out that firms with the most recent upgrades had higher hurdles to overcome, while those with the least could surprise on the upside.
Here we take a closer look at the findings to establish which are the most – and least – promising sectors and companies in the current environment.
Few sectors have seen upgrades
According to Liberum, only six out of 18 sectors in the UK have seen net upgrades in analyst expectations over the last three months.
These are mostly in areas exposed to the normalisation of travel and leisure, while commodity-related sectors have been downgraded as analysts expect current energy prices to decline.
Europe mirrors the UK, according to Liberum strategist Joachim Klement, with the leisure sector being one of only a few to have enjoyed recent net upgrades.
“Defensive sectors like healthcare and utilities have seen upgrades, while cyclical sectors were downgraded,” he said.
Most and least promising UK sectors
Liberum pointed out that energy shortages and rising prices have led markets to “price the probability” of high inflation paired with low growth.
Klement noted how sentiment towards chemicals, resources, and energy companies had turned pessimistic from July to October.
“Whilst in July all chemical stocks were upgraded, in the last month we observe more than 50% of these stocks being downgraded due to the cost pressures from higher energy prices,” he said.
Automotive industry problems
Net downgrades within chemicals are also related to the ongoing downgrading of stocks in the automotive sector, which is a significant customer for the industry.
Auto manufacturers are being affected as semiconductor chip supply shortages threaten vehicle production forecasts.
Despite recent spikes in energy and metal prices, analysts don’t expect disruptions to persist, as they keep downgrading earnings forecasts for resources and energy companies, according to Klement.
“Stocks such as Rio Tinto and BHP, which have benefitted from recent spikes in metal and coal prices, have received net downgrades representing more than 40% of their analyst coverage,” he said.
The report also noted a “change in attitude” towards defensive sectors, such as consumer products, staple retail, and utilities, which have now been downgraded.
Klement said analysts had become more optimistic about cyclical stocks such as construction, retail, and leisure, as well as inflation-linked sectors. An example of the latter is real estate.
“The stocks most upgraded in the UK include financial services, real estate, food and tobacco, leisure, and industrials,” he added.
Stock focus: Workspace
Liberum has also outlined the views of its analysts on a number of companies, including Workspace, which provides commercial business premises.
The study noted that Workspace’s monthly lettings accelerated to 175 in September, having traded in-line with last year’s monthly average of 119 in the two previous months.
It currently has a ‘hold’ rating on the stock. “We continue to believe in the longer-term attractions of the Workspace flexible business model, but operational performance will clearly take some time to recover to pre-lockdown levels,” it stated.
Stock focus: Pets at Home
Liberum analysts currently have a ‘buy’ rating on retailer Pets at Home, with the report highlighting a target share price of 550p. It’s currently at 475.8p.
According to the report, strong revenue growth is expected due to factors such as the acceleration in the UK’s pet population.
It also believes the business will enjoy ongoing market share gains through the “strategic initiatives” it put in place before Covid-19.
Most and least promising European sectors
The study suggested that analysts seem less optimistic about the markets in Europe, where only seven sectors have been upgraded – and the rest downgraded.
According to Klement, these fears are more weighted towards growth as analyst sentiment regarding post-Covid revitalised sectors, such as construction, remained pessimistic.
“These fears have resulted in higher earnings expectations for defensive stocks, such as real estate, utilities, and healthcare, whose earnings are less elastic,” he pointed out.
This has resulted in them receiving more net upgrades – ranging from 13% to 52% – than those observed in the UK, which came in between 8% and 21%.
Read more: Expectations for global growth have collapsed, survey finds
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