Investors should start bracing themselves for an earnings recession, with first-quarter numbers for the S&P 500 expected to suffer the first decline in nearly three years, as macroeconomic headwinds continue to pull down analyst estimates.
Although some say low investor expectations and the stabilization of the macro outlook suggest the recent stock market rally can continue toward fresh highs, others are worried that macro uncertainties and risks to the earnings outlook for the rest of the year have yet to be fully appreciated.
RBC Capital’s Head of U.S. Equity Strategy Lori Calvasina said that based on early reports, earnings sentiment appeared to bottom in January, while Stifel Nicolaus strategist Barry Bannister said it was “too soon” to call an earnings recovery as consensus expectations for the year are still falling.
Meanwhile, the outlook for the first-quarter continues to get more negative, and the second-quarter outlook turned slightly negative for the first time on Wednesday.
John Butters, senior earnings analyst at FactSet, said that as of April 5 more companies are cutting earnings guidance than usual, leading analysts to make bigger cuts to their forecasts. He said 74% of the S&P 500 /zigman2/quotes/210599714/realtime SPX +0.47% companies that have issued earnings guidance have lowered expectations, above the five-year average of 70%. As a result, the average analyst EPS estimate has been lowered by 7.3% during the first quarter, compared with the five-year average decline of 3.2%, Butters said.
|Index/sector||Blended Q1 EPS % growth estimate (decline) as of April 12||Blended Q1 EPS % growth estimate (decline) as of Dec. 31||Blended Q2 EPS % growth estimate (decline) as of April 11|
Among headwinds mentioned by some early reporters and those revising first-quarter and full-year guidance ranges include the ongoing trade dispute with China and the threat of a new battle with Europe, adverse weather conditions, the government shutdown, rising raw materials costs, dollar strength and slowing global growth.
“Bottom line, this earnings season is make or break for this market, because we need earnings growth to resume if the S&P 500 is going to continue to grind higher and test the former all-time highs, and 3,000 in the S&P 500,” according to analysts at Kinsale Trading LLC, in the firm’s “The Sevens Report.”
Earnings reporting season unofficially kicks off on Friday with the banks, with J.P. Morgan Chase & Co. /zigman2/quotes/205971034/composite JPM +1.36% and Wells Fargo & Co. /zigman2/quotes/203790192/composite WFC +0.21% revealing better-than-expected results before the open. The busiest period will start the week of April 22 and run through May 3, when “an avalanche of results from various sectors” are released, analysts at Kinsale Trading wrote.
FactSet publishes a “blended growth” estimate for the year-over-year percentage change in earnings per share for the S&P 500, that represents a blend of results already reported and the average analyst estimates of coming results.
With 26 of 505 S&P 500 companies having reported results as of Friday morning, the blended growth estimate is a negative 4.7%, with 8 of 11 sectors expected to show a year-over-year EPS decline. That’s a big swing lower from expectations for growth of 3.0% estimated as of Dec. 31.
That puts earnings on track to suffer the first decline since the second quarter of 2016, when they fell 2.6%, and the biggest decline since the first quarter of 2016’s 6.6% drop, according to FactSet data.
The sectors currently expected to see the biggest EPS declines are energy at 23.6%, materials at 12.7% and information technology at 10.6%, according to FactSet. The three sectors expected to show EPS growth are health care at 3.8%, utilities at 3.6% and real estate at 2.2%.
But perhaps more important for the outlook for the stock market is that the blended EPS growth estimate for the second quarter slipped into negative territory on Wednesday, to -0.3% from a rise of 3.4% as of Dec. 31.
A recession is generally defined as at least two consecutive quarters of declines. The last earnings recession stretched from the third quarter of 2015 through the second quarter of 2016. The resulting S&P 500 roller coaster was not a particularly fun ride for investors. Read more about the last earnings recession.