The aftershocks of President Trump’s trade spat with China is no doubt a concern for corporate executives. But there’s an even bigger concern right now: the strength of the dollar.
Unfriendly currency swings have been front and center on third-quarter earnings calls as opposed to rambling discussions on global trade conditions. With the U.S. dollar up about 5% this year, underpinned by higher interest rates in the U.S. and a rotation out of risky emerging-market assets, multilateral companies continue to see profits being held back.
The U.S. dollar’s strength has had the unwelcome effect of reducing sales and profits from overseas operations for scores of multinationals.
Foreign exchange has been cited by more than 60% of the companies that have reported to date as a factor that either had a negative impact on earnings or sales in the quarter or is expected to have a negative impact on earnings and revenues in future quarters, according to FactSet.
For instance, beverage and snacks giant PepsiCo (PEP) said third-quarter sales were hit by two percentage points from the U.S. dollar’s relative strength. The company – which does business in Europe and Asia – sees a one percentage point hit to sales and earnings per share this year from unfavorable currency conditions. Previously, it expected a neutral impact.
Meanwhile, the term “tariff” has been mentioned during the earnings calls on 12 out of 24 S&P 500 companies that have reported so far. But only six of the 12 companies have called out they’re being hurt by tariffs.
“The dollar is the single biggest driver of earnings, it’s more important than the first-round effects of tariffs,” UBS chief equity strategist Keith Parker told Yahoo Finance.
Even when tariff was mentioned, corporate chieftains have attempted to downplay any future risk. Hey, isn’t that what they get paid the big bucks to do?
What trade war?
“Regarding trade matters, current tariffs impact a small portion of our volume coming out of China. However, the uncertainty surrounding the issue is not helping and thus has a broader impact on the market,” said Raj Subramaniam, chief marketing and communications officer at Fedex said on a Sept. 17 earnings call.
Costco’s chief financial officer Richard Galanti said: “How it impacts, I think everybody feels that tariffs, people smarter than me don’t like them. And so it’s probably a small net negative. Certainly, whatever negative it is, we can weather it better than others.”
Interestingly, the market has caught a cold in October as investors realize that Wall Street profit forecasts for 2018 are probably too ambitious, considering currency, trade war and interest rate risk. The S&P 500 fell about 6% last week. It marked the benchmark index’s first 5% pullback in 69 sessions.
In all likelihood, the market will soon begin to shift its gaze from the dollar’s relative appreciation (it has since leveled off) back to the trade war’s effects with 2019 approaching.
And make no mistake, the trade war is a real threat to corporate profits – one that investors seemed to have forgotten about in recent months.
Goldman Sachs says there is 60% chance that the U.S. will impose tariffs on most or all of the $267 billion of Chinese imports that have not been previously targeted with tariffs. Assuming such a scenario, Goldman’s estimate for S&P 500 profit for 2019 would drop to as low as $159 in earnings per share from $170 currently. That would eliminate all expected earnings growth next year, Goldman cautions.
The bulls best not hope for another dollar spike if this prediction comes true.
Brian Sozzi is an editor-at-large at Yahoo Finance. Follow him on Twitter @BrianSozzi