Originally posted at Briefing.com.
A lot of things happen in the last half of October every year. Leaves fall from the trees; temperatures drop, and a Major League team are on its way to becoming the World Series champion. Something else that unfolds in the last half of October is the third quarter earnings reporting season.
Over the course of the next four weeks or so, there is going to be a rush of corporate headlines that revolves around earnings results. If this reporting period is like past reporting periods, one thing is bound to happen: the final earnings growth rate will be better than the forecasted growth rate at the start of the reporting period.
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If this reporting period is unlike the past five reporting periods, the final result will have a plus sign next to it.
We're not going to bank on that any more than we will bank on the Chicago Cubs winning the World Series, yet we have to admit signs are pointing up in both respects.
Some Things Count More Than Others
According to FactSet, third quarter S&P 500 earnings are expected to decline 2.1% year-over-year. That's down from a projected growth rate of 0.3% seen on June 30 and it has followed form with a series of downward earnings estimate revisions since the end of the second quarter.
In fact, ten out of 11 sectors have seen their earnings growth estimates lowered since June 30. The lone exception has been the information technology sector.
The energy sector is having an outsized influence on the overall earnings growth rate once again as it is expected to see a 69.3% drop in earnings year-over-year. If the energy sector is removed from the equation, the third quarter S&P 500 earnings growth rate would be +1.3%, according to FactSet.
Such exclusions shouldn't apply in our estimation. When earnings are good, they are good, and when they are bad, they are bad, but it all counts in aggregate just the same—or should anyway.
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It's a fair point, though, to suggest that earnings haven't necessarily counted just the same.
The stock market has taken stock of earnings results and guidance, yet it has been governed more these days by low-interest rates than anything else.
That connection resonates in the fact that S&P 500 earnings have declined year-over-year for the last five quarters, yet the S&P 500 carved out a new record high less than two months ago.
The divergence between S&P 500 price and S&P 500 earnings has been particularly noticeable since early this year. Coincidentally, on the way to that divergence taking root, the yield on the 10-yr note was falling from north of 2.00%.
A Step, But Not a Leap
One can understand, then, why the stock market has acted a little squirrelly lately with the yield on the 10-yr note starting to press higher, having risen roughly 40 basis points from its post-Brexit low in July.
That uptick has been precipitated by a burgeoning belief that central banks are starting to recognize the policy limits of their asset purchase programs insomuch as they relate to buying sovereign bonds.
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In any event, it is important that the earnings results for the third quarter and the guidance for the fourth quarter start validating the relatively high expectations for an earnings growth pickup that have manifested themselves in high valuations.
Getting back to a positive growth rate would be a step in the right direction, but it's going to take a giant leap to achieve the 12.9% growth rate currently projected for calendar 2017 earnings.
Some easier comparisons in coming quarters could help get there, but with the dollar remaining strong, business investment remaining weak, employee costs going up, workers saving more of what they earn, and pricing power lacking in many instances, there is plenty of room for doubt still that double-digit earnings growth will avail itself in 2017.
It would be wonderful if it did, but like other matters mentioned above, we're not going to bank on it just yet.
Expectations
The first order of business is to get through the third quarter earnings reporting period.
The table below indicates where the earnings growth and revenue growth bars have been set for each sector as of October 7. It shows all but three sectors are projected to report a year-over-year increase in third quarter earnings while all but two sectors are anticipated to deliver year-over-year revenue growth.
The S&P 500 earnings growth estimate bar for the fourth quarter is currently set at 5.9% while revenue growth is pegged at 5.2%.
With the election uncertainty hanging in the air, lingering doubts that OPEC can make good on an effort to prop up oil prices with a production cap agreement, and a rate hike presumably in the Fed's pipeline, let's just say those estimated growth rates are still very much moving targets.
What It All Means
This third quarter reporting period comes at a particularly interesting time since it will bracket the presidential election.
By the time election day rolls around on November 8, though, market participants should have a pretty good feel for how this reporting period will play out since many of the big names out of the financial, technology, healthcare, and industrials sectors will have reported their results, and issued guidance, by then.
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The typical tenor of an earnings season includes the majority of companies posting better than expected results.
FactSet informs us that 68% of S&P 500 companies have exceeded earnings estimates, on average, over the past four years. The final earnings growth rate over that period, in turn, has typically been 2.9 percentage points higher on average.
If the earnings reporting function follows form again this period, the earnings recession should come to an end with the third quarter reporting period.
It seems like that has been a long time coming, but that ain't nothing compared to the 108 years since the Chicago Cubs last won the World Series.
It's time for those respective losing streaks to come to an end, but if neither does, there won't be any joy on Wall Street or in Wrigleyville.
