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Top broker warns earnings expectations for the ASX reporting season are too high

Share price falling

The S&P/ASX 200 Index (Index:^AXJO) is giving up all of its morning gains as investors took profits and moved to the sideline ahead of the reporting season.

The top 200 stock benchmark is up by only 0.1% in after lunch trade after jumping by more than 1% this morning.

If you are feeling nervous about the profit reporting season, you may have good reason to be as Citigroup is warning that expectations may be set too high.

Risk of earnings misses

Analysts have been paring their FY20 profit forecast for ASX stocks in light of the COVID-19 crisis with consensus expectations tipping around a 15% hit to earnings and no growth for FY21.

But Citi’s base case is for company bottom lines to fall by 20% for the last financial year and that’s not the end of the bad news.

$27 billion dividend hole

“Citi forecast of aggregate FY20e dividends in the Citi universe has fallen 37% from $72bn to $45bn,” said the broker.

“Banks contributed the most to this decline with all September-reporting banks having reduced or cut their interim dividends.”

These banks include National Australia Bank Ltd. (ASX: NAB), Westpac Banking Corp (ASX: WBC) and Australia and New Zealand Banking GrpLtd (ASX: ANZ).

Will CBA pay a dividend?

Commonwealth Bank of Australia (ASX: CBA) is the only big bank that will hand in its earnings report card in August and Citi doesn’t think it will pay a final dividend for FY20.

This is likely to cause the stock to tumble as I believe the market is expecting a CBA to cut its dividend but still pay one.

4 other things to watch in the reporting season

There are four other things that Citi is telling investors to watch for. Firstly, it’s balance sheet strength as the new COVID-19 outbreak in Victoria and growing clusters in New South Wales reminds investors that rolling lockdowns will be a feature for some time yet.

Secondly, investors shouldn’t be holding their breath when it comes to earnings guidance. In this fast changing COVID-19 environment, most boards will be reluctant to stick their neck out.

“A far greater importance will be placed on any trading updates provided and whether the trajectory of sales or earnings has changed,” explained Citi.

“We think investors need to be careful in interpreting the COVID-19 disruptions called out by companies, given there has been impacts on both revenue and costs that may not be clearly disclosed.”

The third expectation is for our big ASX miners, like Rio Tinto Limited (ASX: RIO) and BHP Group Ltd (ASX: BHP), to deliver strong results. This is thanks to the gravity-defying iron ore price.

One of the trickiest sectors to navigate

Lastly, be wary of listed ASX retailers. Their sales may have been bolstered by government stimulus, but this is being steadily withdrawn.

“Trading updates for the reporting season are expected to be positive given government support and the superannuation withdrawal,” added Citi.

“This may prove misleading as there will be a step down in stimulus come the December quarter, which is likely to result in weaker retail sales growth.”

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Returns as of 6th October 2020

Motley Fool contributor Brendon Lau owns shares of Australia & New Zealand Banking Group Limited, BHP Billiton Limited, Commonwealth Bank of Australia, National Australia Bank Limited, Rio Tinto Ltd., and Westpac Banking. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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