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Earnings season may not be the club for stocks it could have been had the market not gotten so beaten down.

But it could be a period when the stock market is put to the test, as companies discuss trade, slowing global growth and other issues that have shaken investor confidence.

There have been some high profile warnings, like Apple, Constellation, FedEx and Lennar.

Analysts expect that most of the bad news is out on earnings, but if the results and comments are worse than expected, the market could easily retest its lows. On the other hand, if earnings are better-than-expected, they could act as a positive force to help fend off further declines, strategists said.

Fourth quarter reporting season, with major banks releasing numbers next week, will also serve as an important transition period between 2018’s strong double-digit profit growth and 2019’s much slower single-digit pace.

Earnings are expected to be strong, up 14.7 percent in the fourth quarter, but corporate executives will be discussing the activity in the current quarter, which is expected to see much slower profit growth. First quarter earnings are expected to be up around 3.9 percent, according to Thomson Reuters.

But analysts say while the expectations have come down sharply for 2019, so have stock prices, and that could provide breathing room.

“We could see continued volatility, but I think the bar is set so much lower with valuations so much lower than going into Q3 reporting,” said Keith Parker, chief U.S. equities strategist at UBS. “You’ve had such an unwind in the fourth quarter. Momentum stocks were unduly punished and there’s less of an overhang. You put that all together, and it makes the likelihood of a bust, in our view, much less likely. Our view is we’ll probably have more mixed results and guidance going into the quarter, but it does raise the likelihood of relief rallies, given where positions and expectations are.”

For the fourth quarter, at least 72 S&P 500 companies have issued earnings warnings, twice as many as have issued positive guidance, according to FactSet. Earnings growth rates have also been revised lower by companies in all 11 S&P sectors. As of September, earnings for quarter were expected to be up more than 18 percent but that number has been revised down.

“I think the earnings expectations are low enough that people feel they need to exceed those lowered expectations for Q4,” said Sam Stovall, CFRA chief market strategist. “In each of the last 27 quarters, the S&P 500 had earnings that exceeded estimates. So, with the bar having been set lower, I think that investors are expecting Q4 of 2018 to be the 28th consecutive quarter. I think investors are not going to be very forgiving of companies that miss reduced Q4 earnings estimates.”

Stovall said 2019 earnings had been expected to be up 10 percent, as of September, but that forecast has fallen closer to 6.5 percent.

“Stock prices won’t get pounded as much for a miss now since we’ve already gone through corrections or bear markets, depending on the what sectors or stocks you’re looking at. I think investors will sell off shares of companies if they miss their already reduced expectations,” said Stovall.

Tony Roth, chief investment officer at Wilmington Trust, said the earnings season is being overshadowed by issues that are concerning the market, but it could be a positive. “There’s a lot more upside than downside,” he said. “One thing that’s going to temper earnings is the uncertainty around the impact of the federal government shutdown, assuming that continues, and the outlook for trade and tariffs. I think we’re unlikely we’re going to get a significant miss, but it’s very unlikely we’re going to get the kind of beat and raise environment we usually get. Companies are going to be very cautious about providing that kind of guidance.”

Paul Hickey, co-founder of Bespoke, said positive corporate guidance peaked during the summer, and now fewer companies offer upside guidance than lowered guidance.

Source: Bespoke

Hickey said the market looks set to retest the lows of late December. “It’s about seeing how this is going to play out. We’re relatively cautious,” said Hickey. “I think early on in earnings, over the next week or so, if you start to see positive reactions to companies reporting, you won’t get that typical retest you would expect to see.”

“If they’re bad, we’ll see at least a retest of December lows,” he said.

Roth said health care should be a strong setor this earnings season.

“I think you will see a good number beats because the consumer was so strong in the fourth quarter. It could be more in discretionary but it could also be in communications services, in financials. You saw rates come down so there’s a little bit of momentum in housing,” said Roth.

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China credit push to small firms falters in factory heartland

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Chinese employees working on an energy-saving bulb production line in Suining, Sichuan province, China.

STR | AFP | Getty Images

China’s campaign to boost loans to small firms was supposed to support the economy during its biggest slowdown in decades, but banks’ reluctance to lend has left exporters and manufacturers in its southern industrial belt struggling to pay the bills.

Despite prodding from Beijing, several bankers have told Reuters they have little appetite to lend to smaller companies due to the uncertain economic outlook, the U.S.-China trade war and a years-long drive to purge risks from the financial system.

That has chilled credit flows to private sector firms, undermining stimulus measures that were designed to cushion the impact of slowing demand.

In the southern city of Dongguan in Guangdong province, one of the country’s major manufacturing hubs, some small firms are moving production overseas in the face of operational and financing challenges.

“These days the most discussed topic — something that we always talk about in meetings — is whether we should move to Vietnam. Many of my clients have moved there, ” Li Jiajun, the chief financial officer at Guangdong LiShun Yuan Intelligent Automation, told Reuters.

LiShun, which makes paper box packaging machinery, lost financing from two of its four banks in the second quarter, halving its total credit line to 10 million yuan ($1.5 million).

One of those two banks — both are mid-sized — blamed its tighter lending policy on the first half’s economic climate, while the other said its local branch was banned from approving new loans due to a spike in bad debts, he said.

As a result, the company, which expects to generate 250 million yuan in revenue this year, is delaying orders worth nearly 20 million yuan following the cut and taking “defensive measures” — slashing its payroll by 40% and selling equity to raise funds.

“Government policy and implementation on the ground are still somehow disconnected. It’s not so easy — at least, I haven’t enjoyed much benefits so far,” Li said of China’s efforts to boost lending.

Tightened risk control

In China, the state sector has long absorbed the lion’s share of corporate lending from an industry dominated by government-controlled banks, forcing smaller borrowers across the country to rely on non-bank “shadow” lenders, which have been squeezed in the crackdown on financial risk.

Pedestrians pass by Chinese multinational banking company China Construction Bank Corporation (CCB) branch in Hong Kong.

Budrul Chukrut | LightRocket | Getty Images

“We are better than we used to be, but far from serving so many small companies in need,” Bao Jiehan, vice president of the Dongguan branch of China Construction Bank, the country’s second-largest lender, told Reuters.

Only 26% of China’s tax-paying businesses have bank loans, leaving “plenty of room” for banks to lend, a banking regulatory official said.

Financing is especially tough for exporters who have been squeezed by the trade war, as banks tighten scrutiny and impose stricter risk controls, bankers and companies said.

Chen Xiuxia, chairwoman of Guangzhou-based Choice International, said lenders have gradually halved its credit line to 30 million yuan since President Xi Jinping’s 2017 call for banks to curb financial risks.

Her efforts to secure more lending have not succeeded so far, with banks demanding heavy collateral and many non-bank lenders shut down.

“De-leveraging is aimed at the financial system but businesses like us are hit as a knock-on effect,” said Chen, whose company exports goods like air conditioners and cars to Africa and expects to generate $100 million in revenue this year.

Luo Zhiquan, chairman of Dongguan Gowin Import & Export, is trying to obtain a 5 million yuan loan using an office building as collateral to add to his 10 million yuan credit line. His bank will only lend 50% of the property’s value.

That was due to strict bank risk control over wobbling exporters amid the U.S.-China trade war. Gowin, which trades for 200 local manufacturers, saw its annual order value drop by 10 percent this year due to a 50 percent plunge in exports by his clients to U.S. buyers.

“Some banks just do not want to do business with trading companies anymore,” said Luo, recalling what a Dongguan-based rural commercial bank told him when stopping his credit line.

Flock of geese

Chinese policymakers are calling on the Big Five state banks to be “lead geese in the flock” in the push to boost lending.

Outstanding bank loans issued to small firms rose 21% on-year to 10.3 trillion yuan at end-May, driven mostly by the Big Five, which have extended more credit at cheaper rates.

In April, China’s State Council set a target requiring the Big Five to increase such loans by 30% this year and cut their rates by 1 percentage point.

In Guangdong, CCB said it has hiked small business lending by 45% to 97.1 billion yuan in the first half of 2019.

Its main strategy is to increase the numbers of borrowers while reducing the average loan per company to rein in risk, bankers said. The average amount is 630,000 yuan for the bank’s 140,000 small business loan borrowers in Guangdong, said Liu Lele, vice head of small business lending at CCB Guangdong.

In the past, most small business loans averaged 10-20 million yuan per borrower, said Bao of CCB Dongguan.

Small business loans are priced at 5.3% on average, from 6% last year, said Liu, following the government’s April mandate requiring the Big Five to cut small firms’ financing costs.

Overall the Big Five’s lending to small business rose 23.7% in the first five months, while their average interest rate decreased by 0.65 percentage point to 4.79%.

“We are trying to break even. Profit is very thin, definitely less than 1%,” said Liu, who hopes to adopt a more market-oriented approach to pricing loans in the future.

Although analysts see risks to banks’ profitability and asset quality from the government’s lending drive, state bankers say this is not an immediate concern for big banks and regulators who have set a higher tolerance for small firms’ bad loans.

Some smaller-sized banks, however, are more conservative in their lending.

“We are still going through de-leveraging and structural changes of the economy,” said a senior executive at a lender based in northern China that is active in Dongguan.

“In an economic downturn, banks’ risk appetite is low.”

Weakening demand

At the same time, some small companies’ appetite to borrow has diminished as economic prospects dim.

Engineers assemble intelligent robots at Chuangze Intelligent Robot Co., Ltd. on April 29, 2019 in Rizhao, Shandong Province of China.

Zhang Jingang | Visual China Group | Getty Images

Guangdong Songqing Intelligent Technology, an industrial robotics maker, has cut this year’s sales target as clients delay purchase orders in a wait-and-see approach, chairman Xiao Yongxiang told Reuters. Last year, the company closed its low-end mechanical arm business as demand shrank.

Xiao said he wants to raise 20 million yuan by selling equity to pay back half of his bank loans and ease the pressure from 120,000 yuan in monthly interest repayments.

Several bankers across China told Reuters that loan demand from qualified borrowers has weakened this year.

“Clients tell me labor costs and rent are high, trade frictions are hurting exports, their profits are getting thinner and thinner, and it’s just getting harder and harder to do business,” said Sun Shanming, vice general manager of the small business lending department of CCB’s Guangzhou branch.

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US-China trade, oil, currencies in focus

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Stocks in Asia Pacific were set to trade mixed on Wednesday following developments on the U.S.-China trade front.

Futures pointed to a higher open for the Nikkei 225 in Japan, with the Nikkei futures contract in Chicago at 21,680, as compared to the index’s last close at 21,620.88.

Shares in Australia, on the other hand, were set to see opening declines. The SPI futures contract was at 6,691.0, as compared to the S&P/ASX 200’s last close at 6,724.60.

In corporate news, Japan’s Mitsubishi Motor is set to release its earnings for the first quarter later on Wednesday.

Asia-Pacific Market Indexes Chart

Overnight on Wall Street, the Dow Jones Industrial Average closed 177.29 points higher at 27,349.19, while the S&P 500 also gained 0.7% to finish its trading day at 3,005.47. The Nasdaq Composite added 0.6% to close at 8,251.40.

On the trade front, in-person trade negotiations between the U.S. and China will begin next week, sources told CNBC. They said White House officials are looking at a longer-term timeline.

Meanwhile, Boris Johnson is set to be the U.K.’s next prime minister after winning the ruling Conservative Party’s leadership race on Tuesday. Johnson has previously stated that the U.K. must leave the European Union by the October 31 deadline “do or die, come what may.”

The British pound last stood at $1.2432, after seeing a high of $1.248 yesterday.

“In our view, Johnson’s desire to push for Brexit, deal or no deal, increases the chance of an early general election and some possibly nasty GBP outcomes,” Rodrigo Catril, senior foreign exchange strategist at National Australia Bank, wrote in a note.

The U.S. dollar index, which tracks the greenback against a basket of its peers, was at 97.705 rising from levels below 97.5 yesterday.

The Japanese yen, widely viewed as a safe-haven currency, traded at 108.20 after weakening from levels below 108.0 yesterday. The Australian dollar was at $0.6993 after declining from levels above $0.702 in the previous session.

Here’s a look at some of the data set to be released in the day ahead:

  • Hong Kong: NagaCorp earnings
  • Japan: Leading index at 1:00 p.m. HK/SIN, Line earnings for the second quarter, Mitsubishi Motor earnings for the first quarter

— CNBC’s Fred Imbert contributed to this report.

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Snap earnings Q2 2019

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Snap shares surged more than 12% in after-hours trading on Tuesday after the app developer reported quarterly results that soared past analysts’ estimates.

The company, which is the maker of Snapchat, posted a slimmer-than-expected loss for the second quarter while exceeding expectations for user growth and revenue.

  • Loss per share: 6 cents vs. 10 cents forecast by Refinitiv
  • Revenue: $388 million vs. $359.7 million forecast by Refinitiv
  • Global daily active users (DAUs): 203 million vs. 192.4 million forecast by FactSet
  • ARPU: $1.91 vs. 1.84 forecast by Refinitiv

“The growth in our community, engagement, and revenue is the result of several transitions we completed over the past 18 months,” said Snap CEO Evan Spiegel in a statement. “We look forward to building on our momentum and making significant ongoing progress in each of these areas.”

Snap’s user base grew to 203 million daily active users. This was the second quarter in a row of growth for the company, which saw its user base shrink from 191 million daily users in the first quarter of 2018 to 188 million the following quarter.

The company reported revenue of $388 million for the second quarter, up 48% compared to a year prior. Notably, the company reported a gross margin of 46%, a vast increase from the 30% gross margin reported a year prior.

“We continue to make significant progress in driving down our underlying unit costs over time, including the cost to deliver a Snap, the cost to deliver an impression, and other key drivers of infrastructure costs,” said Snap Chief Financial Officer Derek Andersen in his prepared remarks.

After a rough 2018, Snap has bounced back in 2019. Its shares have rocketed more than 180% since hitting a record low of $4.99 on Dec. 21.

The stock climbed past $16.50 after the report. Should Snap’s stock open at this price on Wednesday it would be the highest since March 2018. The stock debuted at $17 in 2017.

The company said it expects third-quarter revenue of $410 million to $435 million, which is better than analysts expected. Snap also said it expects between 205 and 207 million daily users for the third quarter, ahead of the 195.5 million analysts expected, according to FactSet.

Snap’s turnaround has been driven by CEO Evan Spiegel’s decision to stop trying to attract all users and instead focus on the company’s core base of younger consumers. Advertisers have flocked to Snap largely because of its augmented reality technology, which has led to improved engagement with users by letting them experiment with selfies and group photos.

In 2019, Snap replicated the past success of its puppy face and rainbow lenses with a gender swap lens that showed users what they’d look like as a person of the opposite sex and a baby face lens that showed them as babies.

“The popularity of these Lenses drew millions of people into our rebuilt Android application, where they experienced the new and improved Snapchat that led to increased engagement,” Spiegel said in his prepared remarks to investors. “The enhancements we have made to our advertising business and self-serve platform meant that we were better able to monetize this increased engagement, leading to accelerating revenue growth.”

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