The next big test for the market will come during first-quarter earnings season, and so far it’s not looking good, according to Morgan Stanley strategist Mike Wilson.

“While the Fed's dovish pivot earlier this year was very bullish for stocks and removed one of our primary concerns from last year, it did not remove our other primary concern about negative earnings growth,” Wilson wrote in a note to clients.

According to FactSet, S&P 500 earnings in the first quarter are expected to decline by 3.7%. If that comes to fruition, that would be the first year-over-year earnings decline for the S&P 500 since the second quarter of 2016.

Moreover, Wilson argued that the market rally that started after Christmas was mostly due to the Fed’s shift in tone in regards to its future monetary policy path. “We think the Fed pivot created a false sense of confidence for investors during that very weak 4Q earnings season,” Wilson said. “4Q results were quite poor and led to the broadest earnings revisions we've observed since the last earnings recession in 2015-16.”

Wilson warned that judging by the early reports that have been trickling out, next month when earnings season kicks off, investors could witness similar negative earnings revisions.

Of the 105 S&P 500 companies that have issued earnings-per-share guidance so far, 77 issued negative earnings guidance, according to FactSet. This quarter’s 77 companies exceeds the five-year average of 74 companies issuing weak earnings outlooks.

FedEx, Nike, BMW

Wilson specifically alluded to disappointing reports from FedEx (FDX) and Nike (NKE) and a weak guidance from BMW.

When FedEx reported earnings after the market close on March 19, the stock fell 3.49% the following day. The company missed on both the top and bottom lines, but what really spooked investors was the management’s blame on macro economic conditions on the earnings call.

FedEx CEO Fred Smith said, “Quarter three was a challenging quarter. Our FY19 plan envisioned top-line revenue growth of approximately $6 billion. Mostly due to lower economic growth in international regions, we expect to end the year with about $4.5 billion in increased revenues … While that macroeconomic environment lately has presented challenges relative to our prior expectations, particularly at FedEx Express, we’re quite optimistic we’ll improve results in FY20 that begins June 1.”

CFO Alan Graf followed up and said, “slowing international macroeconomic conditions and weaker global trade growth trends continue. Asia volume weakness, which we experienced during peak season, deepened post Chinese New Year. Reflecting these macro challenges, FedEx Express international revenues declined year-over-year in the third quarter.”

Finally, Chief Marketing and Communications Officer Brie Carere stated, “We see solid economic growth in the U.S. but somewhat below last year's pace. Internationally, performance is mixed across regions as overall growth moderates … Since our last earnings call, we have seen the overall China economy slowdown further, and this has impacted other Asian economies. Given the size of China, no markets will be able to absorb more than a fraction of what China produces, but customers continue to look to diversify from China.”

Though Nike’s management didn’t blame and macroeconomic conditions when the company reported earnings after the bell on March 21, the company’s stock fell 6.61% the following day on mixed results and soft sales in North America.

On the other hand, global automaker BMW, issued weak guidance March 15. BMW said in a statement, “Alongside the challenges facing the entire industry over the past year, from the BMW Group’s perspective, ongoing international trade conflicts also contributed to a tightening market situation and greater uncertainty … The BMW Group currently sees challenges in various areas, including political uncertainty, a cooling global economy (partly due to international trade conflicts), rising production costs to meet regulatory requirements, exchange rate effects and rising raw materials prices.”

Pain ahead

All of this evidence points to pain ahead for the economy, according to Wilson. “We've published considerable evidence over the past several months suggesting there will be negative knock-on effects to the economy as corporate confidence is weakened by poor earnings,” he said.

“We have been vocal about our bearish call on 2019 US earnings growth and remain convinced of that view,” Wilson said. “a significant [earnings] beat—one that would cause us to change our negative earnings thesis—is probably not in the cards for 1Q.”

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Heidi Chung is a reporter at Yahoo Finance. Follow her on Twitter: @heidi_chung.

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