Margins: The new bugaboo dogging stocks

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Stocks had their worst drop in almost three weeks yesterday, and everyone’s worried about margins.

Several major companies offered bad news about profitability. The trend seems widespread enough that it may become a broader concern for sentiment going forward.

Blue chip industrials 3M (MMM) and Caterpillar (CAT) topped the list, warning that results might get worse before they get much better. MMM was especially hard hit by its consumer products (items like Scotch tape) — maybe not a surprise when we consider similar news from Procter & Gamble (PG) and the wave of retail-store closures. CAT said increased spending will squeeze margins.

Ditto for megacap tech stock Alphabet (GOOGL), which tripled capital expenditures.  Speaking of tech, social-media giant Facebook (FB) reports earnings tonight. Remember CEO Mark Zuckerberg recently told Congress that increased content-supervision costs will “significantly impact” future earnings. In other words, margins could suffer.

Lockheed Martin (LMT) failed to raise its free-cash flow outlook — even though it boosted revenue guidance. There’s only one way that makes sense mathematically: weaker margins.

Sherwin-Williams (SHW) and Masco (MAS) provide paint and other housing supplies. SHW cut its guidance, while MAS lagged earnings estimates. Translation: Higher costs ate their margins.

A quick reminder that margins are the difference between sales received and profits earned. They benefit from higher prices on merchandise or lower costs for raw materials and salaries. Recent reports have shown trouble on both fronts. Things might get even worse if wages continue to rise. That already hit retailers like Ross Stores (ROST) and Target (TGT) in March.

In conclusion, we entered this earnings season with high hopes of tax cuts fueling monster results.  But now a different picture may be emerging.

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David Russell is VP of Content Strategy at TradeStation. Drawing on nearly two decades of experience as a financial journalist and analyst, his background includes equities, emerging markets, fixed-income and derivatives. He previously worked at Bloomberg News, CNBC and E*TRADE Financial. Russell systematically reviews countless global financial headlines and indicators in search of broad tradable trends that present opportunities repeatedly over time. Customers can expect him to keep them appraised of sector leadership, relative strength and the big stories – especially those overlooked by other commentators. He’s also a big fan of generating leverage with options to limit capital at risk.