Wealth Accumulated

By D J Thomas, a large-cap stock market value investor and financial writer

Interest rates

How earnings from oil smash records whilst tech disappoints

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ExxonMobil gushes $56 billion in profits

It’s a record yearly profit for the company which previously stood at $45.2 billion in 2008. That was when oil hit $142 a barrel. The EU pre-empted Exxon’s swag with a $1.3 billion windfall tax in the fourth quarter. Shares finished the week at £112 also an all-time high for the firm. As noted two weeks ago, Putin’s invasion of Ukraine will prompt eye-watering earnings from the energy sector. Exxon’s Chief Financial Officer Kathryn Mikells said ‘strong markets, strong throughput, strong production, and really good cost control’ helped the firm to its record earnings.

Google earnings drop in Q4

Alphabet’s earnings came in at $1.05 per share, revenue came in at $76.05 billion continuing a downtrend trend in quarterly revenue growth since Q2 of 2021. In November 2021, shares reached an all-time high of $148 and have since fallen 29% to $105. The company also warned of a $2.3 billion charge it will sustain in Q1 of 2023 related to the 12,000 employees it fired in January. Further charges related to real estate – specifically its reduced office space, will start at $500 million in Q1 and further real-state charges are likely moving forward. Headcount growth cost it an extra 10% in operating expenses but CEO Sundar Pichai reiterated its focus on AI. With Google’s current legal proceedings in the US, there’s a lot for the executive team to be working on and shareholders to be mindful of.

Apple earnings growth slides

CEO Tim Cook blamed the macroeconomic environment and the lockdowns in China for not producing enough iPhones and iPads to sell for the latest quarterly earnings decline. Apple posted EPS of $1.88, down 10.9% YOY, revenue was down 5.49% YOY. Apple’s quarterly earnings have been declining in growth since the beginning of 2021, albeit from lofty heights (54.1% in Q1). The firm said that production levels of the iPad and iPhone are back to ‘acceptable levels’. The number of Apple active devices increased from 1.8 billion to 2 billion, including first-time buyers of the Apple Watch. Cook mentioned costs are being cut and hiring has slowed but did not see a need to slash headcount like others in the tech space. Despite the negative decline in earnings growth, Apple has faired much better than its tech peers due to prudent management of its hiring process, innovative product expansion (Apple Pay, Card, Music), and bringing new customers on board its product range despite the macro headwinds of the last few years: resilience.

Amazon issues guidance for Q1

Amazon expects YOY growth of revenue of between 4% – 8%, and online store sales declined 2% YOY. Consumers are slowly switching from e-commerce to high-street shopping since the end of the pandemic. CEO Andy Jassy, on top of announcing an 18,000 headcount cull last month, has frozen hiring, halted warehouse build, and is ‘… working really hard to streamline our costs and trying to do so at the same time that we don’t give up on the long-term strategic investments that we believe can meaningfully change broad customer experiences and change Amazon over the long term’. Amazon Web Services – its cloud business – declined in growth for the fourth quarter from 27.5% in the third, to 20%. Amazon earned 3 cents per share and operating income declined YOY due to $2.7 billion of charges, some of which related to severance payments. Shares are trading at $103, down from $183 in November 2021.

Meta shares explode 23% after results

Meta shares rocketed 23% in after-hours trading when the firm announced a $40 billion stock buyback, and beating revenue expectations for the fourth quarter. CEO Mark Zuckerberg said Meta’s “management theme for 2023 is the year of efficiency and we’re focused on becoming a stronger and more nimble organization.” Meta announced 11,000 layoffs last November. There’s also less expenditure expected in the future due to a switch to more cost-effective data centres. The Reality Labs unit responsible for the development of the Metaverse is expected to increase operating losses in 2023 ‘significantly’. Shares are currently trading at $186, down from $378 in September 2021. Without the share buyback, the value of Meta is in decline due to weak advertising demand and Tik Tok dominating ad revenue growth. Meta’s ad revenue declined 4% in the quarter and continues to be ‘impacted by the uncertain and volatile macroeconomic landscape’ according to Meta CFO Susan Li. Ad revenue represented 97% of Meta’s total revenue in the quarter.

Shell’s 115-year profit record

$39.9bn (£32.2bn) in 2022, the highest in its 115-year history. The price of Brent crude oil went to almost $128 a barrel after Putin’s invasion of Ukraine last year. It’s currently trading at $83. Shell said was due to pay $134m in a UK windfall tax for 2022 and more than $500m in 2023. Shell had paid $13bn in taxes globally in 2022 and only derives around 5% of its revenue from the UK.

US raises interest rates by 0.25%

The market expected it and The Fed delivered. A rise of 25 basis points from Jerome Powell and his team this week, the highest since October 2007. Inflation is still at its highest levels since the 1980s. Powell noted that inflation “has eased somewhat but remains elevated… inflation data received over the past three months show a welcome reduction in the monthly pace of increases… while recent developments are encouraging, we will need substantially more evidence to be confident that inflation is on a sustained downward path.”

UK interest rates highest for 14 years

The Bank of England raised interest rates by 0.5% to 4%. The market is expecting rates to peak at 4.5% in the summer before heading back down. The Bank has a 2% inflation target but prices are rising at 10.5%, a 40-year high. The market believes inflation reached its peak in the UK last October at 11.1%. Both the Bank of England and The Fed are in lockstep both with inflation and rate rises, but not on the upcoming recession – the IMF stated this week that the UK will be the only major economy to shrink in 2023, forecasted to be -0.6%.

Why lower interest rate rises are less toxic for your portfolio

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Image by Elliot Alderson

0.25 or 0.50? These are the numbers getting everyone’s knickers in a twist. The numerical obsession with interest rates is tied to the fact that stocks like low interest rates. The next FOMC meeting is in a few weeks’ time starting 31st January and Federal Reserve Governor Christopher Waller said last Friday “there appears to be little turbulence ahead, so I currently favor a 25-basis point increase at the FOMC’s next meeting.” And it’s not just Waller. Philadelphia Fed President Patrick Harker said in his view “hikes of 25 basis points will be appropriate going forward”. The expectation has been set.

Machine learns like lightening, very very frightening

Google and Alphabet CEO Sundar Pichai is frightened of future internet users turning to AI rather than using its search engine. It’s clear why: Sridhar Ramaswamy from Google’s ad team between 2013 and 2018, said that ChatGPT could prevent ChatGPT users from clicking on links with ads. Ads that generated approximately $208 billion dollars (81% of 2021 revenue). The recent lawsuit filed against Google by a coalition of 8 US states and the Department of Justice accusing them of ‘destroying competition in the ad tech industry’, may prove to be an untimely distraction. The demo version of Google Search with AI chatbot that Google promised by the firm later this year can’t come soon enough for shareholders.

Google needs a lawyer

The US Department of Justice along with eight states is suing Google. But before we get into that, let’s remind ourselves about the staggering worldwide backlash against Google’s dominance: a $2.73 billion fine by the EC in 2017, a $4.3 billion fine by the EU in 2018, a $1.49 billion fine by the EC once again – all for antitrust issues. Historical fines for Google in the US have been nowhere near these figures. This time around, the lawsuit is seeking to divest its advertising businesses as a way of opening up competition in the ad space. Are we about to see the US admonish one of its own corporate children?

Microsoft’s layoffs cost it a packet

Microsoft earned $2.32 per share. The market was expecting $2.29. All good in the hood. Microsoft said it recorded a charge of $1.2 billion for the quarter, $800 million of which related to the job cuts. Oh, there’s also a slowdown in its cloud and business software divisions for 2023 according to the company. “During the pandemic, there was rapid acceleration. I think we’re going to go through a phase today where there is some amount of normalization in demand,” Chief Executive Officer Satya Nadella. Microsoft earnings are important because it’s seen as an example of the wider tech sector, which also happens to have a major influence on the tech-heavy S&P 500. Its slowdown in December coupled with an acknowledgment of a general slowdown in PC sales forecasted for 2023 looks as though the recession is starting to influence forward earnings “In our commercial business we expect business trends that we saw at the end of December to continue” – Amy Hood, Cheif Financial Officer, Microsoft.

UK government likes debt

From £16.7 billion in December 2021, to £27.4 billion in December 2022, the UK government hits record borrowing. Way above expectations of £17.8 billion. Inflation, household energy bills assistance, student loans, and April’s national insurance policy reversal is to blame. A significant proportion of student loans will never be repaid and the government is forced to recognise this under new accounting rules adding to the indebtedness.

Recession in the UK

Two data points: 1) the S&P global CIPS UK flash composite purchasing managers’ index saw the ‘sharpest drop in business activity for two years’. January data highlighted a sustained downturn in UK private sector business activity. The overall rate of decline accelerated to its fastest for two years. “Weaker than expected PMI numbers in January underscore the risk of the UK slipping into recession”, Chris Williamson, chief business economist at S&P Global Market Intelligence. 2) Anna Leach, CBI Deputy Chief Economist, said: there are signs that demand is easing too, with order books weakening sharply, spare capacity in the manufacturing sector rising and the share of firms citing the strength of sales or orders as a potential constraint on output rising to its highest in almost two years.” If the patient is the UK economy, it’s like two doctors coming to more or less the same conclusion.

Boeing’s flying low

A $663 million loss for the fourth quarter and a $5 billion loss for the full year with a loss per share of £1.75 v expected earnings per share of 26 cents. It’s the sixth quarterly loss in a row. “While we have made meaningful progress, challenges remain and we have more work ahead to drive stability in our operations and within the supply chain,” Chief Executive Officer Dave Calhoun. Boeing is betting on a full re-opening in China and the easing of supply-chain issues that slowed the production of aircraft, especially jet engines. As an old-school value investor, I can’t help thinking back to the massive losses Warren Buffett suffered when he went full ham on airline stocks only to sustain huge losses. No thanks.

Tesla’s earnings turn south

You’ll see the headlines: record revenue at Tesla. What you won’t see, at least not as clearly, are earnings of $1.19 per share v $2.52 in the same quarter last year. Or that gross margins are the lowest in five years and operating cash flow is down 29% from last year. Tesla has already begun well-publicised price cuts on its vehicles which helped ramp up orders. Musk is upbeat about Tesla and thinks he can make up to 2 million vehicles this year which he says will all be sold if they can make them fast enough. ‘Twitter is actually an incredibly powerful tool for driving demand for Tesla’ Musk responded when asked if his political rants hurt the firm. He even had the gall to encourage other automakers to make use of Twitter for marketing their own brands. Elon is a well-received businessman here at Wealth Accumulated.

US Fourth quarter GDP down

A weakening housing market and a slowdown in corporate spending reduced fourth quarter GDP to 2.9% from 3.2% in the third quarter. Consumer spending (68% of GDP) increased 2.1%, fuelled largely by consumer debt, even as retail sales declined in December by 1.1%. Are consumers maxed out? Most commentators believe a recession is coming, albeit a mild one despite these numbers.

Diageo

Earnings per share shot up 20% for the firm this week to 100.9p at the half-year stage. The company owns the most enviable portfolio of drinks brands in the world. Baileys, Johnnie Walker, Guinness, Smirnoff, and a suite of Scotch Whiskeys to name a few. Price rises for its products and an increase in consumers drinking its premium brands helped to boost revenue. It, like a lot of the large caps that sell to China, is betting on increased revenue in 2023 when China re-opens.

Intel

Just 10 cents per share and a $664 million net loss in the fourth quarter of 2022. Intel is predicting a net loss of $15 cents per share in the first quarter of 2023. Intel elected not to give full-year guidance for 2023 but did indicate $11 billion in sales in the March quarter, a 40% year-over-year decline. Their customers have a deluge of chips already and need to work through their supply before buying Intel chips again, at least that’s what analysts are saying.

Chevron pumps profits

Putin’s invasion of Ukraine has prompted what will no doubt be eye-watering earnings from the energy sector. Chevron made a record $36.5 billion profit for 2022, more than double the previous year. The $75 billion share buyback program it announced has President Biden calling it a ‘slap in the face’ for Americans coping with the ravages of flooding in California.

Rolls Royce is a burning platform

The CEO of Rolls Royce, Tufan Erginbilgic gave his employees an analogy: when an oil platform in the North Sea is on fire, you need to jump into the volatile and freezing water to survive. That’s what he meant when referring to the firm as a ‘burning platform’. Covid was dismissed as no more than an excuse for what he called the firm’s chronic underperformance. He will likely announce a brutal restructuring following up his tough words with tough action.

How to value the S&P 500 like an expert in 3 easy steps

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How to value the S&P 500

Valuing the S&P 500 is integral to successful global large-cap stock market value investing.

It’s one of the first modules we teach in the Value Investor School because the S&P 500 is the most followed and written about stock market index in the world.

That makes it the simplest index in the world to research and invest in.

Just look at the top ten largest stocks by market capitalisation (at the time of writing).

Market capitalisation refers to the total dollar value of ALL the company’s shares combined.

It reads like a who’s who of the most well-known global businesses:

  • Apple (AAPL)
  • Microsoft (MSFT)
  • Amazon (AMZN)
  • Tesla (TSLA)
  • Alphabet Class A (GOOGL)
  • Alphabet Class C (GOOG)
  • Berkshire Hathaway Class B (BRK.B)
  • UnitedHealth Group (UNH)
  • Johnson & Johnson (JNJ)
  • Exxon Mobil (XOM)

The top five of these stocks represent 20% of the total value of the S&P 500 and some of these names are in the financial press on a daily basis.

So it pays to get to grips with the value of the S&P 500 on a regular basis to either invest in it directly with an index fund or to get a sense of general market valuation.

The importance of valuing the S&P 500 from a value investing perspective

Type the words stock market into your browser or favoured social media channels and you’re bombarded with a thousand opinions on what you should or should do with your money. Sometimes you’ll get stories of the latest stock to collapse in value.

When we come across headlines and news articles from the financial press, they almost always sensationalise the truth as to what is happening to stocks day to day.

How the stock market works in context with macroeconomic events, and how your individual stocks can be affected by rising or declining market values is an important skill set to develop.

The constant wall of noise can be confusing as we’re drawn to seek out ‘expert opinion’ in times of uncertainty whether stocks are rising or falling.

There must be an intellectual safety net out there somewhere.

Luckily, the value approach is an intellectual safety net based on your own balanced, independent research. It is a far better judge as to what to do in any given market scenario than the noise machine from Wall Street.

Financial publications get paid by making you click through to their articles.

Pay yourself first with underpriced value by determining when the S&P 500 is undervalued.

#1 Find out the PE ratio of the S&P 500

A lot of investors balk at the idea of valuing stocks with the PE ratio relegating it to a prehistoric has-been.

The manipulation of earnings by unscrupulous managements and the sometimes lumpy earnings successful businesses produce, yo-yo-ing up and down like no tomorrow, make it difficult to get an accurate valuation of a stock or index based on its earnings.

Or so they say.

Yes, there is also a heavy earnings bias toward the largest capitalised stocks; much of the earnings are concentrated in the top 10 stocks due to their enormous size and global sales.

But I’ve got news for you: nothing is ever perfect in the world of investing.

Successful investors understand that reasoning based on the most accurate information available is better preparation for successful, profitable investing than relying on the opinion of almost everyone.

The number one resource I use for finding out the PE ratio of the S&P 500 is multpl.com, from Rober Shiller, Professor of Economics at Yale University.

When you click through you’ll get a nice chart showing the PE ratio of the S&P 500 from about 1870 to the present day.

#2 Compare the current PE ratio of the S&P 500 to the historical PE ratio of the S&P 500

One thing you’ll notice from the chart is the wild swings in value the S&P 500 has had over the years, especially since the massive liquidity manipulations starting in the 1980s.

Ultimately, your task is to compare the current PE ratio to its historical value.

You do that by noting where the S&P 500 PE ratio is now and where it has bottomed in the past.

The last bottom was in 1980 at 7 and the PE ratio has since made only two major bottoms of 17 in 2006, and 14 in 2011/12.

Put another way, the S&P 500 PE ratio has been bottoming at around 15 over the last 40 years.

Pro tip: on each of those occasions, the Federal Reserve put a floor in and artificially inflated the value of the S&P 500 with quantitative easing and cutting interest rates.

#3 Decide whether the S&P 500 is overvalued, undervalued, or at fair value

For simplicity, I use three gauges of stock market valuation to help them value stocks:

  • Overvalued
  • Fair value
  • Undervalued

You can see why it’s a popular method.

But you can’t get to decide where the S&P 500 is on the value gauge until you’ve done the work and the work tells us that as of the publication of this post, the PE ratio for the S&P 500 is 20 which means it is around fair value.

Why fair value?

Remember the average PE ratio bottom range of 15-17, that is the undervalued range.

It makes sense that 18-20 is fair value range and anything above 20 is overvalued.

Why is 20 overvalued?

Because a rock solid principle of value investing is that we buy stocks and index funds at a discount to intrinsic value (fair value).

One thing to note is that these ranges are not absolutes. They change with economic times such as the recent central bank and government manipulations of stocks since the 1980s.

Ranges play an important role of placing the value of the S&P 500 in context to historical values.

For even greater context, the S&P 500 is heading towards undervalued because the Federal Reserve is in a monetary tightening cycle (raising interest rates and shrinking its balance sheet) and the US is already in a technical recession.

The White House and The Federal Reserve have both tried to redefine what a recession is for political reasons but the truth is that GDP has declined for two back-to-back quarters in a row.

The Federal Reserve also strenuously maintains that rates will rise well into 2023 and well-known financial institutions predicting a global recession in 2023.

Based on the history of how stock market prices perform under similar conditions, the S&P 500 is likely heading lower.

How much lower?

Nobody knows.

That said, you’re job is not to second guess the President, The Federal Reserve, or even where stock prices are heading in the future.

From a value investing perspective, you’re simply defining what the value of the S&P 500 is now whilst taking into consideration the macroeconomic environment of the global stock market.

Publicly available interest rates and GDP data help you with this task.

Over time as you regularly interpret financial markets news flow within the context of a value-first approach, you’ll develop a deeper understanding of how the stock market actually works not from a day-to-day perspective, but from a long-term, low-risk perspective that most market participants do not consider.

You have my permission to take ownership of your own financial success.

Need some help with becoming a smarter investor?

A value-first approach to investing creates a mind free of distractions that’s hard to beat.

Sometimes value investing can still seem bewildering given the never-ending stream of headlines and financial jargon, especially in times of uncertainty.

You may even have struggled with some of the terminology in this post.

That’s okay.

The good news is that you do not have to choose between a financial dictionary and interpreting 1000 opinions a day to become a truly successful, long-term investor.

You can use a value investing framework that respects your time, common sense, and appreciation of what actually matters in financial markets in plain English.

If you want to learn more about making successful value-orientated investments, check out the online stock market investing course.