Another Underwhelming Earnings Season? Yes and No

Marilyn Brohm |

First Q 2018 earnings for S&P 500 companies reported an amazing 26% year-over-year earnings growth!! (See first chart, Source: CFRA S&P, The Outlook, July 2, 2018.) But the stock market shrugged. While CFRA S&P, a research firm, expects the second-quarter numbers to be as impressive as the first quarter and future profit guidance to be decent, they think the response from stocks will more likely resemble the reaction received after first-quarter results. “On average, companies that beat both top- and bottom- line expectations in the S&P 500 only traded 0.1% higher on the day they reported results, and many traded down sharply on the release.”



Times are good for U.S. companies’ top (revenue) and bottom (profits) lines. The S&P 500’s full-year EPS growth is now projected at 21% for 2018 and 10% for 2019! What’s more, S&P 500 revenues are forecast to rise 9% in Q2, as well as 8% for all of 2018.


So, on aggregate, if U.S. companies are reporting all-time high record profits (see second chart, Source: Compustat, FactSet, Standard & Poor’s, J.P. Morgan Asset Management), why were year-to-date returns for S&P 500 companies barely 3%? There are of course many plausible reasons, and here are my thoughts:


  • First, remember that investors are always looking six to 12 months in advance because many companies give forward earnings guidance that far out. So, if we follow this premise, some of last year’s 20% plus global stock market gains were for this year’s earnings growth.
  • Second, it’s not uncommon for the stock market to move sideways after a year(s) with outsized stock gains like 2016 and 2017. In recent years, 2011 and 2015 were years when the S&P 500 Index barely broke even following year(s) of sizable positive gains.
  • Next, the biggest concern going into earnings season is the risk of rising tariffs offsetting the benefits of tax reform. Trade policy uncertainty has had a very modest impact on the overall economy so far (more significant for some industries than others), but investors may fear that a broader trade war would be more disruptive to the U.S. and global economies. As Sandi mentions in her newsletter article on trade negotiations and tariffs, no one really understands 1) how far the various countries tariff threats will come true and 2) how tariffs will affect complex global supply chains in the near- and medium-term, and 3) if/how do these recent trade negotiations affect the long-term pace of globalization, which has greatly benefited U.S. companies and their shareholders.
  • Despite some peaking indicators, the U.S. economy remains strong (job growth; non-manufacturing strength; manufacturing recovery) mixed with low interest rates and low inflation, but both are rising and therefore potentially signaling a recession in the next few years. PIMCO, a major bond investment firm, conducted a poll amongst economists and strategists ahead of its annual investment forum in May. The results suggested a U.S. recession over the next three to five years, and has now become consensus amongst those economic and market followers – even though financial markets do not seem to be pricing in this risk, judging by risk spreads and volatility.

In conclusion, I am cautiously optimistic for stocks this year. I don’t expect double-digit returns, but I think the good news will still outweigh the bad in the near-term. However, I think there is a good probability of a recession in the next few years. Most, but not all, stock bear markets are a result of a recession, but we don’t currently see a recession around the corner in the next 6-12 months. 


Alex Petrovic III, CFP®