Forget the New York Times Best Seller list: Earnings call transcripts may just end up being the summer page-turner you can’t put down at the beach.

Earnings season is always an important time of the year. While most seasons have some sort of theme or trend, from falling oil prices to the impact of a new tax bill, this upcoming second quarter (Q2) earnings season’s theme will be all about trade—and whether the current trade war tensions have impacted company cash flows and management guidance.

In preparation for any Q2 earnings fireworks, we dug into the data to reveal some trade-related opportunities based on the latest information reported by the company.1

The theory is that a stronger dollar over the past year and the potential for global supply chain disruption should continue benefiting domestically oriented areas of the market. This has been the most recent trend within the S&P 500® at the single-stock level. In a follow-up post, I’ll take this a step further and show why one shouldn’t throw the baby out with the bath water just because a sector has high revenue from overseas.

Made in the USA has been more than OK lately

To level-set the analysis, we examined these trends for all S&P 500 stocks. We partitioned out stocks by whether they generate more or less than 50% of their revenue from outside the US. We then calculated the median stock’s relevant growth or performance statistic for each revenue bucket. Medians were preferable to averages, as both positive and negative outliers—such as ultra-high and ultra-low growth rates—can distort averages.

The data revealed that there are stronger growth and performance trends for more domestically oriented, low foreign revenue firms. Not only did those domestic firms register higher growth rates in Q1, but Q2 sentiment (Q2 earnings per share (EPS) growth estimate revisions) and growth forecasts are higher. And the market has taken note. Low foreign revenue firms have outperformed higher foreign revenue firms and the broader market in Q2, as well as since early May when the trade tension heat was turned up.

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Source: FactSet, Bloomberg Finance L.P., as of 06/14/2019. Earnings forecasts are based on consensus analyst estimates.

To show the disparity of growth expectations and performance between firms with low and high foreign revenues, we examined the same metrics for the bottom (low revenue) and top decile (high revenue) firms in terms of foreign revenue. The median figures showed again that the more domestically oriented bucket (bottom decile) has higher growth expectations, sentiment, and stronger recent performance. In fact, Q2 EPS growth estimate changes are currently positive for the bottom decile firms. The inverse is true for both top decile (high revenue) firms and the broader market, as they have seen Q2 EPS estimates decline. Not surprisingly, with stronger earnings sentiment, stronger performance has followed the firms in the bottom decile.

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Source: FactSet, Bloomberg Finance L.P., as of 06/14/2019. Earnings forecasts are based on consensus analyst estimates.

This disparity in performance between bottom and top decile foreign revenue firms widened as President Trump escalated trade war rhetoric with his May 6th tweet reimposing tariffs on Chinese imports.2 To compile this performance, each stock within the top and bottom deciles was equal weighted and rebalanced monthly. The below chart shows that up until early May, top decile (high foreign revenue) firms actually had the lead over bottom decile (low foreign revenue). All of that changed in May, as shown by the performance difference by theoretically going long the low revenue and short the high revenue firms.

Key Takeaway: If trade tensions do not ease, the outperformance trend for low foreign revenue firms could continue.

Counting the dollar bills at a sector level

Three metrics will help us decipher the formation of foreign revenue at the sector level, as shown below:

  1. The percentage of firms within a sector with ≥50% of revenue from outside the US
  2. The percentage of total market capitalization for a sector by firms with ≥50% of revenue from outside the US
  3. The average firm’s percent of revenue overseas within a sector

Real Estate, Utilities, and Financials have the more domestically oriented profile by all measures, while the more foreign-exposed sectors have a bit of variability across all three metrics. Technology and Materials are consistent as the top two across all three metrics, but Energy is third based on market cap weights. As shown below, 54% of the Energy sector's market cap has foreign revenue exposure ≥50%. This is a byproduct of the concentration in the top of that sector among a few firms like Exxon and Chevron. Meanwhile Consumer Staples is third based on the number of securities within the sector with ≥50% of revenue from overseas. One-third (11 out of 33 stocks) of that sector has ≥50% of revenue from overseas. Lastly, Health Care has the third-highest firm-specific average figure, with the average firm generating 34% of the revenue overseas.

To understand foreign versus domestic sector exposure in today’s environment, we calculated the performance of a sector strategy that was long the top three domestic (Real Estate, Utilities, and Financials) based on a blend of the three metrics above and short the top three high foreign revenue exposure sectors (Technology, Materials, Consumer Staples). Each sector within the long or short basket is represented by the market-cap weighted S&P 500 GICS Sector Index and held at equal weights. Below are the long, short, and long/short baskets created:

Similar to the decile portfolio analysis above, noticeable outperformance occurred immediately after the May 6th tweet. Not all of this is due to their revenue profiles, though, as some is a result of the defensive shift the market took as the trade war heated up. Within the long portfolio are Utilities and Real Estate exposures, two defensive bond-proxy market segments. More recently, however, the short leg started to rally alongside the walking back of the Mexico tariffs.

Key Takeaway: The numbers do not lie; if trade tensions do not ease, the outperformance trend for low foreign revenue (and in some cases, defensive-oriented) sectors could continue throughout the dog days of summer.

But as stated earlier, one shouldn’t throw the baby out with the bath water just because a sector has high earnings from overseas. I’ll cover why in my next post.

For more insights on the latest earnings trends check out our SPDR ETFs Chart Pack. And be sure to stay tuned to SPDR Blog for part 2 .

1FactSet, as of 05/31/2019.
2"The Trump trade tweets that sent the stock market tumbling, explained", VOX.com May 6, 2019.

Definitions

Earnings Per Share (EPS)
A profitability measure that is calculated by dividing a company’s net income by the number of shares outstanding.