Strong Dollar Poses Looming Threat To Corporate Earnings—But These Stocks Avoid One Of The Biggest Risks

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With third-quarter earnings season kicking off this week, analysts at Goldman Sachs are telling clients to buy stocks with a high percentage of sales from the United States to help protect against the looming consequences of the dollar’s historic rally this year, which is good for Americans traveling abroad but will inevitably spell trouble for the slew of companies doing business in hard-hit countries.

Analysts aren’t too optimistic about upcoming earnings, but this crop of stocks is virtually immune … [+] to one of the biggest headwinds.

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Key Facts

Excluding energy firms, which have benefitted from skyrocketing oil prices, company earnings are expected to fall by 3% in the third quarter, Goldman analysts led by David Kostin wrote in a weekend note, adding that it’s likely many firms will downsize their earnings expectations to account for the dollar’s historic rally this year.

The profit outlook “deteriorated as the quarter progressed” and the dollar surged to new 20-year highs, the team said, noting that roughly 30% of revenues for U.S. companies come from overseas, which means many firms will be forced to report lower sales on a relative basis as they convert the figures to dollar terms.

In a potential sign of the difficulties that lie ahead, shares of jeans-maker Levi Strauss, which collects about half its revenue from overseas, collapsed 12% last week after the company blamed “significant” headwinds from the stronger U.S. dollar for profits that fell short of analyst expectations.

As a result, Kostin recommends owning stocks with a high volume of U.S. sales relative to foreign sales, and he points out the utilities and real estate sectors—companies like electric giant Southern Co. and Public Storage—get virtually 100% of sales from the U.S.

Several big banks including Truist Financial, Wells Fargo and Capital One (which start reporting earnings on Thursday) are also free of international exposure, in addition to big consumer firms like Dollar General, Chipotle and Target, and telecom companies T-Mobile and Verizon.

All told, Goldman notes their basket of U.S.-centric firms have left their earnings estimates for next year unchanged since July, whereas companies heavily reliant on overseas business—such as Netflix, Meta and Google-parent Alphabet—have already cut estimates by 3%.

Key Background

In times of economic turmoil, the dollar’s strength typically represents growing concerns of a global recession, with investors flocking to the relative safety of the world’s reserve currency as other assets crater in value. The dollar index surged to a 20-year high more than 114 points late last month, climbing more than 21% year over year. Against the surging dollar, the euro has tumbled nearly 20% over the past year, while the yen has collapsed 25%. Such rallies “typically coincide with major financial stress in markets, a recession—or both,” Morgan Stanley warned earlier this summer.

What To Watch For

Big banks are among firms kicking off second-quarter earnings season this week, with Charles Schwab (another company with 100% of its business coming from the U.S.) and Goldman Sachs slated to report on Thursday, and JPMorgan and Wells Fargo on Friday. As the strong dollar adds to headwinds, Bank of America predicts the utilities, real estate and energy sectors are mostly likely to outperform this earnings season.

Surprising Fact

With the strong dollar and growing interest rate hikes weighing on corporate profits, Morgan Stanley says it expects upcoming corporate announcements will reveal an “earnings recession” that pushes stocks down as much as 7.5% from current levels.