Corporate Earnings: Growth and Optimism amid the AI revolution

We hear so much in the financial media about inflation, slowing economic output, and the Fed’s inflation fighting efforts, that it’s easy for people to become overly pessimistic. We are even hearing about the threat of the 1970’s bugaboo “stagflation.”  While it is true that we still have persistent inflation and economic growth isn’t as robust as it has been in years past, there are still some very good things happening in the economy. And at this point we don’t think a seventies style stagflation episode is imminent.

The AI revolution is underway and there will be many beneficiaries of this new paradigm. We have confidence this new technology will lead to a new wave of societal productivity and innovation. The first wave of AI beneficiaries are well known with the likes of Amazon, Microsoft, Alphabet, META, and Nvidia at ground zero of this new technological era. These stocks are all performing well (though META took a hit this week). But the promise of AI-based innovation will be far broader based, and we fully expect new companies to emerge in this era that will join the giants listed above. We also expect his new technology will enhance productivity across the economic landscape that should lead to corporate earnings improvements throughout the economy. This will begin to play out over the coming quarters and years much like the commercialization of the internet 30 years ago produced persistent and impactful productivity gains.

With that bit of optimism, let’s turn our attention to the first quarter earnings season which is near the midway point. In short, the earnings are coming through. Here below is the big picture view of the quarter, courtesy of FactSet.

These are solid earnings batting averages relative to history, which says things are going quite well across the economy. Note Communication Services and Information Technology are among the top performing sectors. Corporate America is healthy and leading the way as consumer spending continues apace.

Beneath the surface, the mega cap tech are the dominant drivers. Here’s two more great charts from Factset below:

We can see from the first chart that year-over-year earnings growth in the first quarter is concentrated in these mega cap tech stocks and the remaining S&P stocks are shrinking. But look what happens when we cast our gaze into the future below.

We can see that for the remainder of the year, mega cap tech growth is expected to decelerate while the rest of the S&P 500 Index is expected to accelerate upward. By the end of the year, expectations are for nearly a full leveling out of earnings growth across the S&P 500 Index. This is a picture of the expected benefits of AI in terms of productivity and growth gains. Thus, the next few quarters are very important relative to expectations. If (and this is a big if) earnings come through as expected, the market can and likely will hold onto gains and make new highs, even despite the higher valuation levels of stocks. Earnings growth success will determine the fate of the market for the remainder of the year and misses will likely continue to be treated harshly.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which Investment(s) may be appropriate for you, consult your financial advisor prior to investing. Information is based on sources believed to be reliable, however, their accuracy or completeness cannot be guaranteed.

The S&P 500 Index, or Standard & Poor’s 500 Index, is a market-capitalization-weighted index of 500 leading publicly traded companies in the U.S. The S&P 500 index is regarded as one of the best gauges of prominent American equities’ performance, and by extension, that of the stock market overall.

No investment strategy can assure success or completely protect against loss, given the volatility of all securities markets. Statements of forecast and trends are for informational purposes and are not guaranteed to occur in the future. All performance referenced is historical and is no guarantee of future results. Securities investing involves risk, including loss of principal. An investor cannot invest directly in an index.