For investors cheering this earnings season, there could be trouble ahead.
As the fourth-quarter results roll in, the S&P 500 is poised to post an average earnings growth rate of 12.4 percent, the fifth straight quarter of double-digit growth. These results have boosted the stock market, with the S&P 500 enjoying its best January in more than 30 years.
While companies are reporting great numbers, their outlooks are falling short. And that’s caused analysts to rapidly slash their earnings expectations for the current quarter. In fact, Wall Street’s expectations for earnings growth for the first quarter of 2019 have just turned negative with profits expected to fall on average by 0.8 percent, according to FactSet. That would mark the first year-over-year decline in earnings since the second quarter of 2016.
At the end of September, analysts expected first quarter profits to increase by 6.7 percent, on average, according to FactSet.
Fears of a global economic slowdown is to blame for the shortfall, according to Kristina Hooper, chief global market strategist at Invesco.
“And then there are other issues related to trade in some cases, whether it’s input cost narrowing target margin or supply chain disruption narrowing target margin,” she said in an interview.
This earnings season may seem upbeat so far on the surface as many major companies scored big rallies on beats — in terms of price action, it’s even shaping up to be the best earnings season in 9 years. But the bar was set very low.
Hooper pointed out the change of heart by the Federal Reserve on interest rates made investors overlook the declining earnings picture. The central bank held rates stable last week and pledged ‘patient’ approach to rate hikes, sending stocks to fresh highs.
Now six of the 11 sectors are expected to report a decrease in earnings for the first quarter, with the information technology sector projected to decline the most by 8.9 percent, according to FactSet.
Earnings Before Interests and Taxes (EBIT) margin consensus estimates for 2019 have fallen by 60 basis points since October, the most significant downward revision since the financial crisis, according to Morgan Stanley. The bank also pointed out the ratio of negative to positive guidance for the first quarter is the highest since 2016, when we last had an earnings recession.
“Earnings are deteriorating even faster than we expected,” Morgan Stanley chief U.S. equity strategist Mike Wilson said in a note on Monday. “The earnings revision breadth over the past month has been even more negative than we expected leading us to think are earnings recession trough in the U.S. could be later than 1Q and deeper.”
“That means stocks are unlikely to run away on the upside after a 15 percent rally; and it’s time for investors to act like the Fed and be patient putting new capital to work,” he added.
