Q2 Earnings Season Concludes with Nvidia’s Report
The conclusion of the Q2 earnings season was marked by Nvidia’s report yesterday, which serves as an important indicator for the AI trade. The prominent themes of the season include AI, consumer spending, and earnings distribution.
1. Investor Concerns Over AI Infrastructure Investment Costs
This quarter saw significant focus on AI and its associated investment costs for "hyperscalers" such as Microsoft (MSFT), Google (GOOG), Meta (META), and Amazon (AMZN). Investors are closely scrutinizing the cost-benefit analysis of these investments, considering the high valuations of these companies.
- Meta (META): The company’s share price increased post-earnings due to a 33% year-over-year rise in AI spending, which is enhancing its advertising business.
- Amazon (AMZN): Increased AI expenditure by 50% year-over-year negatively impacted cloud margins, resulting in a selloff.
- Microsoft (MSFT): Stronger-than-expected AI-related cloud demand led to sales misses due to capacity constraints, coupled with an 80% year-over-year increase in AI investments.
- Google (GOOG): Although earnings exceeded expectations, concerns lingered about AI spending doubling year-over-year.
- Nvidia (NVDA): Despite surpassing expectations, the extent of the beats and issues in the production of its next-generation chip led to a selloff.
Investors are evidently worried whether AI investments will generate sufficient future profits to justify the current spending, which is predicted to increase further.
2. Consumer Spending Activity and Cost Consciousness
Consumer behavior emerged as another critical theme this quarter. Sustained consumer spending is vital for achieving a soft economic landing. Earlier concerns about the consumer’s health seem to have been overstated, with robust performances from major retailers such as Walmart and Target. Both companies reported better-than-expected earnings, with Walmart even raising its full-year profit and sales guidance.
Consumer sectors demonstrated solid performance, with positive earnings growth observed in Consumer Discretionary (+13% YoY) and Consumer Staples (+3% YoY). It appears consumers are still spending, though they have become more cost-conscious, which might impact profit margins.
3. Broader Earnings Growth in the S&P 500
A notable trend this earnings season was the broadening of earnings growth beyond the largest companies. In Q2, S&P 500 earnings experienced an 11% year-over-year increase, the highest in two and a half years, with nine out of eleven sectors showing positive earnings growth.
While the Mag 7 companies posted a 35% year-over-year earnings growth, the rest of the S&P 500 also saw a 6.5% year-over-year rise, a significant improvement compared to Q1, where earnings for the rest of the S&P 500 declined by 2%.
Analysts project continued positive earnings growth for the remainder of the S&P 500 in the second half of 2024. With market rates already dropping in anticipation of the Federal Reserve’s rate hike cycle coming to an end, demand may increase, and some margin pressures related to interest rates could be alleviated. This would make AI investments more affordable to finance in the future.
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