January 2015 sure started off with many mood swings. Thank you low oil prices. In December oil prices were still heading down but did not bottom out until January. Lower oil prices have a negative impact on corporate profits mainly in the energy and multinational companies. This triggers the U.S. dollar to strengthen which makes the U.S. products more expensive and less favorable to foreigners. The chart below shows the divergence between U.S. Dollar Index (yellow line) and Oil Prices (orange line).
The most common strategy for companies involved heavily in oil is to reduce their capital expenditures. This assists in retaining their dividends and not steering investors away. The other side of lower oil prices is the consumer. Consumer spending represents 2/3 of Gross Domestic Product (GDP) and, as most often, consumers saved the day with a 4.3% spending increase in 4th Quarter GDP. This will continue into 2015 with the Consumer Discretionary Sector of the S&P 500 having the highest year over year earnings growth expected.
Earnings season is upon us. More than 61% of S&P 500 companies reported 4th Quarter results. Of the 61% reported, 56% came in better than expected on revenue and 78% better than expected on earnings. These results appear to be in-line, but the missing link is lower year over year earnings growth and as a result, the expectations for next year are being revised down.
Market cycles happen frequently and some tend not to linger. If you are a long-term investor going against the tide can work in your favor. Oil prices will not stay this low forever and neither will some of the oil dependent stocks current prices.