Earnings Trends Sole Bright Spot in Q4 2018:
361 Capital Wall Street Mood Monitor

Rising Stock Correlations, Negative Analyst Sentiment Present Headwinds for Active Management

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DENVER, January 23, 2019—Amid challenging market conditions for stock pickers, earnings trends were encouraging in the fourth quarter, according to the Wall Street Mood Monitor, produced by 361 Capital, a Denver-based boutique asset manager. At the same time, spiking stock correlations and negative analyst sentiment presented major headwinds.

Each quarter, 361 Capital assesses the market conditions for active managers in the Wall Street Mood Monitor, a model gauging the active management climate based on three factors: stock correlations, analyst sentiment, and earnings trends.

“In a matter of months, two of the factors in the model—correlations and analyst sentiment—turned negative, with the biggest change in stock correlations,” said John Riddle, CFA, chief investment officer for 361 Capital. “The bright spot in the model: earnings trends.”

Key takeaways from 361 Capital’s fourth quarter 2018 Mood Monitor:

Stock Correlations Rose Significantly:

  • Escalating trade tensions and fear of a weakening global economy sent markets tumbling and, perhaps not surprisingly, stock correlations rising. At the end of the fourth quarter, intra-market correlations for the Russell 1000 Index stood at 0.64, well above the long-term average of 0.55.
  • Correlations were quite volatile in 2018, entering the period at a 15-year low, spiking in April, turning lower again in the middle of the year, only to jump again in the fourth quarter. Higher correlations imply individual, stock-specific characteristics are mattering less to investors. High correlations normally correspond to difficult environments for active managers, but they aren’t the only mounting headwind.

Analyst Sentiment Soured:

  • 361 Capital gauges analyst sentiment by comparing the total number of upward and downward revisions to all sell-side analysts’ corporate earnings estimates.
  • In December 2018, earnings estimate upgrades were only 39 percent, the lowest rate since early 2016. Pessimism was widespread, with only the utilities and consumer discretionary sectors recording more upward earnings revisions than downward ones. Analysts were least constructive on the materials, energy, and communications sectors, where at least 70 percent of earnings revisions were negative.

Earnings Trends Remain Strong

  • For the fourth quarter of 2018, 55 percent of stocks beat consensus earnings estimates by at least one standard deviation. Conversely only 12 percent of companies reported earnings that were a standard deviation below consensus expectations.
  • The rate of companies significantly beating estimates was down 5 percent from the third quarter but remains near all-time highs. Meanwhile, the percentage of companies reporting significantly disappointing results is hovering near an eight-year low.
  • Earnings trends were strongest in the technology and communication services sectors, where the percentage of companies significantly beating consensus earnings estimates stood at 71 percent and 59 percent respectively.

“While analysts are revising more earnings estimates downward, that doesn’t necessarily mean corporate earnings are poised to fall. True, a slowing global economy would be a challenge for companies, but analysts’ revisions haven’t always been a reliable leading indicator of future earnings,” Riddle said. “If earnings do start to disappoint, it would pose a further challenge in an already tough backdrop for active management.”

To read more on Wall Street sentiment, or the other factors used to assess the backdrop for active management, read the full Wall Street Mood Monitor report.

About 361 Capital
361 Capital is a leading boutique asset manager. Founded in 2001, the firm offers a suite of actively managed alternative and behavioral-based equity strategies that seek to deliver meaningful alpha, manage risk and offer diversification potential to investor portfolios.

361 Capital is majority employee-owned with strategic investments from Lovell Minnick Partners, a private equity firm and Lighthouse Investment Partners.

For more information, call 866-361-1720 or visit 361capital.com.

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