A lacklustre first-quarter earnings performance from the world’s largest retailer is a reflection of the unusual environment the sector is facing, with high levels of inflation and rising prices weighing on consumer spending. Meanwhile, the US dollar remains firm against other currencies, with the impact of the recent US Federal Reserve rate hike largely factored into the exchange rate at this point. However, looming further interest rate hikes from central banks including the Bank of Canada coupled with tightening financial conditions is putting pressure on global stocks. The S&P 600, which tracks US small cap equities, is down 16% year-to-date amid elevated global growth fears. If global growth fears remain elevated, this pressure on small caps will linger.

Scotiabank analysts weigh in on how economic indicators and trends are influencing retail, currencies, and equities right now.


  • This week the world’s largest retailer Walmart (WMT) delivered a first-quarter earnings performance that resulted in the company’s share price posting its biggest single-day loss since the market crash in October 1987. WMT shares closed the day (May 18, 2022) down $16.86, a decline of 11.38%. High costs associated with the broad inflationary pressures weighed on results in the quarter, pressuring margins and operating costs. According to management, the Q1 results at Walmart reflect the highly unusual environment retailers are facing. The current high levels of inflation are pointing to a possible turn in the tide of consumer spending, which remained buoyant through the pandemic, supported by stimulus payments and the absence of travel and leisure spend. Higher prices will lead consumers to pull back on discretionary spend. Walmart noted a shift in its mix to spend on food and fuel, away from general merchandise. 
  • Walmart’s Q1 earnings miss prompted the company to revise downward its full-year guidance, provided in February. The company now expects a full-year EPS decline of ~1%, down from a prior guide of mid-single-digit EPS growth, and expects full-year earnings will continue to be pressured by higher fuel, logistics, and wage costs.
  • The Walmart earning miss was followed a day later by Target’s (TGT) Q1 results, which also missed analyst expectations. Target’s miss saw its shares plunge 22% in pre-market trading, and in early morning trading TGT share were off over 25% (May 19, 2022), on pace for the largest decline since October 1987. Target noted that, while it saw good sales growth in Q1, the quarter was plagued by higher costs that weighed on margins and operating costs, mirroring the results from Walmart a day earlier. Target, too, saw consumers having to spend more on food and staple items, leaving less room in their wallets for discretionary spending.
  • Target’s Q1 miss prompted the company to revise full-year guidance as it anticipates cost pressures continuing. In March, Target guided to a full-year operating margin of at least 8%  but now forecasts 6%. Management indicated that fuel and freight costs will be ~$1 billion higher than anticipated for the year.
  • Target noted that higher markdown rates, which were driven primarily by inventory impairments and actions taken to address lower-than-expected sales of discretionary items, impacted Q1 profitability. In addition, the company incurred higher operating costs related to freight, supply chain disruptions, and higher wages.
  • The current high levels of inflation are pointing to a possible turn in the tide of consumer spending. Consumer spend remained strong throughout the pandemic, buoyed by stimulus payments and the absence of travel and leisure spend. Higher prices will likely lead consumers to pull back on discretionary spend. Both retailers noted a shift in mix to spend on food and fuel, away from general merchandise. The shift away from discretionary spend is exacerbated by the return to more normal pre-pandemic leisure activities, including a return to restaurants and travel. Interestingly, Target noted higher luggage sales in Q1.
  • With inflation at unprecedented levels, the highest in forty years, retailers cannot easily pass through the higher costs in the form of higher pricing. In the context of what appears to be slowing demand for discretionary items, raising prices is not the answer to stimulate demand and sales.

—  Patricia Baker, Director, Retailing, Global Equity Research

Foreign Exchange

  • The USD remains generally firm against its major currency peers but we think the best of the USD rally is perhaps behind us now, with most (if not all) of the benefit the USD can derive from the Fed’s aggressive monetary tightening largely factored into the exchange rate at this point.  Fed policy makers have indicated that they want to get policy nearer “neutral,” which is a vague estimate of where interest rates are neither stimulating nor restraining growth. This is assumed to be around the 3% point for the US at the moment. Fed fund futures are pricing in an implied policy rate of just under 3% in December. Scotia forecasts benchmark rates for the US and Canada will reach 3% before the turn of the year.
  • At the same time, other central banks that have been reluctant to raise interest rates – namely the European Central Bank – are showing more intent on tightening rates over the second half of the year as domestic inflation pressures build. Meanwhile, the Bank of Canada may have to tighten policy a little more quickly than the Fed in the coming months as this week’s inflation data showed Canadian price pressures continue to mount. Steadier short-term rates in the US and rising rates elsewhere have led to a stabilization in yield spreads which have widened steadily in the USD’s favour over the past few months. Without the support of ever wider yield differentials, the USD may struggle to strengthen in the medium term.  
  • A consequence of rising interest rates and tightening financial conditions is, however, continued pressure on global stocks.  Risk aversion may help prop up the USD in the short run and may prevent the CAD from benefitting from a positive domestic backdrop as well as elevated commodity prices. However, we continue to look for some improvement in the CAD in the next few weeks and target an end June rate of 1.25 for USDCAD.     

—  Shaun Osborne, Managing Director, Chief FX Strategist, and Juan Manuel Herrera, FX Strategist 


  • The S&P 600, which is tracking U.S. small cap equities, is down 16% YTD and 20% from its November high. As we indicated in a recent piece (P/E Compression Phase Well Underway – What’s Next?), the equity damage is essentially explained by a sharp contraction in valuation and small caps are no exception.
  • The S&P 600 forward P/E ratio is down to 12.0x, which is among its lowest levels since our data started in 1990. To provide some perspective, the S&P 600 fwd P/E ratio bottomed at 10.2x in November 2008 during the financial crisis and at 11.8x during the early innings of the pandemic, when the world was essentially in lockdown mode.
  • As long as global growth fears remain elevated and the “R-word” is in investors’ minds, small caps could remain under pressure. Still, to witness much more damage, earnings expectations would have to come down sharply, which is still not the case at this time. If we can dodge the worst case-scenario, the disconnect between the index and its 12-month forward EPS has never been so large.

—  Hugo Ste-Marie, Director, Portfolio & Quantitative Strategy, Global Equity Research 


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