Second-Quarter Earnings in the Basement, Not Subbasement

Jeremy Glaser: For Morningstar, I'm Jeremy Glaser. I'm joined today by Bob Doll. He is a senior portfolio manager and also the chief equity strategist at Nuveen Asset Management. We're going to look at what's happening in the markets and if he sees any opportunity today.

Bob, thanks a lot for joining me again.

Bob Doll: Thank you, Jeremy.

Glaser: So, let's start with the state of the economy. We've gotten some data that certainly seems to suggest that first-quarter GDP is going to be another very disappointing number. Is growth in the U.S. truly falling off a cliff?

Doll: I don't think so. We know we've had a long problem with first-quarter GDP. The adjustment factors for years now have made the first quarter the lowest quarter. My view is, you take the first quarter and the second quarter and average it, and that's the truth. We'll probably get a GDP number in the first quarter of about half of 1% and maybe 3-ish for the second quarter and average them at 2, and that's what we've been growing since the Great Recession ended. I think we're still growing 2.

Glaser: So, you think we are going to see that pickup in the back half of the year, too?

Doll: I think 2-ish for the back half. As far as the eye can see, to me 2 is the right number. It's not 3 like we'd like to see, but thankfully it's not 1 and receding.

Glaser: How do you think about growth outside the United States impacting us? What's happening in China and other emerging markets, does that have a big impact on us?

Doll: No question. The fact that those areas of the world are growing even more slowly relative to potential than we are, is a bit of a drag. It's among the long list of reasons why we're growing at 2 and not 3. The good news for China and the rest of the world is there is at least some stabilization. Commodity prices tell us that story. So, the news is not uniformly negative for outside the U.S. anymore.

Glaser: So, let's take a look at earnings. We've kind of gotten the first of first-quarter earnings, mostly banks so far. Do you think this is going to be a disappointing earnings season like many are expecting?

Doll: So, I think we're going to have a bad quarter on an absolute basis. But relative to expectations, which are kind of down in the subbasement, I think we could come in, in the basement. So, it will look like a positive surprise. But barring a disaster, the first-quarter earnings will be the low point year-over-year for this slowdown in profits, or profits recession as some are calling it.

Glaser: When you look at this kind of by sector, for a while we were thinking of this maybe as an energy story, the slowdown in energy earnings was making everything look bad. Is that still the case here, or are we really seeing a broader slowdown?

Doll: So, using the numbers that have already come in and estimates for the balance of the quarter, non-energy earnings will be up about 2%. So, what's taking us to down minus single-digits? Answer, energy. It is still the biggest culprit. But other areas have slowed too, no question about it.

Glaser: Then where does that leave us with valuations? Stocks kind of at 2016 highs again. Does that mean that the valuations are stretched with earnings lower?

Doll: Yeah, valuations, I can't make the case they are going to go higher. Did they fall? Not necessarily, because stocks are still not expensive relative to the alternatives, cash and bonds, in particular. So, I argue for multiples about where they are, and the only way stocks move up is if we get better earnings. Shot of that in the second quarter if oil continues to behave itself, if the dollar doesn't go back up and we're starting to see some of the manufacturing numbers, the purchasing manager indices, the ISMs doing a little bit better. Those three things tell me second half earnings might be OK.

Glaser: Then when you think about different sectors then, are there ones that you think are trading at a discount at all or any values there?

Doll: Technology we still think is a good place. The free cash flow numbers alone are in pretty good shape. Portions of the industrial sector are good, believe it or not, some of the consumer names given the U.S. consumer is doing pretty well. The other side of the story--utilities are expensive, telecom is expensive. Energy, I think still is not cheap compared to where the price of oil is.

Glaser: On those consumer stocks, defensive names had a big rally last year. How do you think about that? Is it more of the cyclical names you think the value is in?

Doll: I think it's very selection-specific. So, I'm not saying consumer discretionary, go after it. For example, the autos are cheap; very controversial, yields of about 5% for GM and Ford. On the other hand, the growth names like Home Depot and Lowe's, I think, are also good concepts because people are spending money to fix up their homes.

Glaser: Bob, thank you for sharing your thoughts on the market. We always appreciate it.

Doll: Thank you.

Glaser: For Morningstar, I'm Jeremy Glaser. Thanks for watching.