A Fresh Earnings Perspective
Here’s a fundamental truth: In the long term, stock prices follow earnings. With earnings season for the third quarter largely over, corporate earnings have remained relatively strong while forward earnings estimates are only slightly declining as recession expectations persist. According to FactSet:
“Overall, 94% of the companies in the S&P 500 have reported actual results for Q3 2022 to date. Of these companies, 69% have reported actual EPS above estimates, which is below the 5-year average of 77% and below the 10-year average of 73%. In aggregate, companies are reporting earnings that are 1.8% above estimates, which is well below the 5-year average of 8.7% and well below the 10-year average of 6.5%. If 1.8% is the final percentage for the quarter, it will mark the second-lowest surprise percentage reported by the index in the past nine years. The lower earnings surprise percentage is due to a number of companies reporting actual earnings below estimates by unusually wide margins.”
So what are we to make of the corporate earnings environment? While uncertainty remains around the potential for a recession and its potential impact on corporate earnings, right now professional earnings forecasters do not seem worried about a material earnings decline. To wit, the chart below demonstrates that stocks (blue line) are down substantially more than are earnings expectations (black line).
At this stage, stocks are down because rates are up, which is impacting the present value of their earnings. This has brought PE multiples to more reasonable levels. It’s hard to see stocks going down much further IF (and this is a very BIG IF) earnings decline only a small bit. As of now, analysts are still expecting earnings growth through 2023, although the growth rate expectation is declining slightly.
For stocks to decline further, it is going to require either a materially worse corporate earnings environment than is currently expected and/or higher interest rates than are currently expected. We still believe the preponderance of evidence suggests a need for continuing vigilance as it seems more likely than not there could be more economic deterioration to come. Thus, we aren’t signaling the “all clear” bell just yet.
We wish you a heartwarming Thanksgiving Day this week. Enjoy your time with family and friends as we all collectively express gratitude for the abundance in our lives. Count your blessings: there is always much to be thankful for.
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