Wall Street Mood MonitorTM

First Quarter 2019



The Wall Street Mood Monitor is a three-factor model gauging the climate or “mood” for active management within each sector. Factors include sentiment, earnings trends and correlations. Sectors in the top right represent areas where active management conditions may be favorable based on positive earnings surprises and positive analyst sentiment. Correlations are assessed by comparing each sector’s current intra-sector correlations to its historical average. Green circles represent lower-than-average correlations. Red circles indicate a correlation above the sector’s 15-year history. Circle size represents the magnitude of difference between current correlation and its long-term average (i.e., smaller circles correspond to lower magnitude differentials).

Below we examine the three components of the chart in more detail, including earnings, sentiment and correlations.

Wall Street Sentiment Stays Frosty
For the third straight quarter, through March 2019, Wall Street analyst sentiment remained in a funk. We gauge sentiment by comparing the cumulative upward and downward revisions sell-side analysts make to corporate earnings estimates. Once again, negative revisions outpaced positive ones.

In September 2018, the total percentage of upward revisions fell below 50% for the first time in 11 months. Negative revisions have outnumbered positive ones every month since. However, March offered a small bit of hope: While the percentage of negative revisions (55%) still surpassed positive ones, the ratio between the two at least improved from February.

Analyst sentiment was worst for the Materials sector, where 75% of all earnings estimate revisions were downward. Analysts also had a sour mood about the Industrials sector, where 68% of revisions were negative. Health Care, Information Technology, Consumer Staples and Energy were the only sectors in which upward revisions outpaced downward ones.

Earnings Trends Have Softened, but Remain Healthy
Earnings trends lost some momentum but remain relatively positive. We gauge the earnings environment by comparing the percentage of companies reporting earnings at least a standard deviation above consensus estimates (an “earnings surprise”) with those reporting earnings a standard deviation below expectations (an “earnings disappointment”).

Forty-nine percent of Russell 1000 companies reported an earnings surprise, in 1Q19. This represents a 6% drop from 4Q18, and an 11% drop from the 3Q18, but is still slightly ahead of the long-term average of 46%. Only 15% of companies reported an earnings disappointment in the first quarter, which is slightly higher than the long-term average of 13%.

At the sector level, earnings surprise rates were highest in the Information Technology, Industrials and Health Care sectors. Earnings trends were particularly notable for industrial companies, where the surprise rate jumped 12% to 59.6% during 1Q19 versus 4Q18.

Stock Correlations Remain Elevated
Intra-market correlations declined during the quarter but remain elevated. As of March 31, 2019 intra-market correlations stood at 0.60, a drop from 0.64 at the end of 2018, but above the long-term average of 0.55. Correlations remain high because many of the geopolitical uncertainties that sent markets sinking and correlations spiking in the fourth quarter persist.

At the sector level, correlations are also elevated. The Consumer Staples and Communication Services sectors were the only areas where intra-sector correlations are below long-term averages. The Health Care and Information Technology sectors are experiencing the highest correlations relative to their long-term averages.

Sector Spotlight: Consumer Staples and Health Care

We believe that the best conditions for active management are in the Consumer Staples and Health Care sectors. We use three factors to gauge the active management backdrop: correlations, sentiment and earnings trends. This quarter, Consumer Staples was the only sector to score well in all three areas.

Consumer Staples: A Triumvirate of Favorable Conditions

Intra-sector correlations for consumer staples stocks are below their long-term average, an impressive feat in an environment in which stock correlations are generally high. Communications Services is the only other sector where correlations sit below historical norms.

Sentiment toward the Consumer Staples sector also remains positive; Among all the earnings estimate revisions Wall Street analysts made for consumer staples companies in the quarter, 52% were upward changes. While not overwhelming, that makes Consumer Staples one of only four sectors that experienced more upward revisions than downward ones this quarter—the others being Health Care, Information Technology and Energy.

Earnings trends in the Consumer Staples sector are also favorable, as 54% of companies reported earnings that were at least a standard deviation ahead of consensus estimates.

Health Care: Enthusiasm Abounds

In a quarter when Wall Street sentiment toward companies generally remained low, the Health Care sector was a bastion of optimism. Fifty-six percent of earnings estimate revisions for Health Care companies were positive, a higher rate than any
other sector.

Earnings trends for the sector also remain strong, with 56.4% of health care companies reporting earnings surprises and only 6% reporting an earnings disappointment. The ratio between health care companies reporting surprises or disappointments continues to sit above its historical average, as it has for nearly three years.

Correlations in the Health Care sector were a big headwind, however. No sector is experiencing higher intra-sector correlations relative to its long-term average.

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This piece is not intended to provide investment advice and should not be construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any security or sector by 361 Capital or any third-party.

April 2019