The dreaded earnings slowdown is here
Fears about U.S. companies overblown; but first quarter looks shaky, may weigh on stocks
Companies’ fourth-quarter earnings weren’t nearly as bad as investors feared. The first quarter isn’t looking bright, though, and that could create a big divide between the market’s haves and have-nots.
More than half the companies in the S&P 500 have now reported fourth-quarter results. So far, so good. Earnings per share are on track for an increase of 16.8% versus a year earlier, according to Refinitiv, compared with the 14% analysts were looking for a few weeks ago. Given how many companies are beating estimates, actual earnings growth should be a couple of percentage points higher than the current estimate when all is said and done.
Earnings strength has assuaged the worries that beset investors late last year, helping stocks claw back from their December drop. But with the economy cooling, the outlook for the current quarter has deteriorated. Analysts now estimate that first quarter earnings will slip 0.1% from a year earlier—significantly worse than the 5.3% growth they expected at the start of the year. (Ever hopeful, analysts expect earnings to bounce back in the second quarter.)
The earnings slowdown owes something to last year’s corporate tax cut reaching its anniversary date: Credit Suisse strategist Jonathan Golub calculates that the tax cut added about 7 percentage points to earnings growth in the fourth quarter.
The slowdown also owes something to one big company: Apple. First-quarter estimates for the iPhone maker, which accounted for over 4% of S&P 500 net income last year, have come down sharply since the company issued a revenue warning in early January.
But it is more than just Apple: First-quarter estimates have fallen significantly across most sectors.
And the slight earnings growth that analysts expect to see in the first quarter wouldn’t even be there if it weren’t for all the shares companies have bought back over the past year. Analysts expect S&P 500 net income (as opposed to earnings per share) to be down 2.6% from a year earlier in the first quarter, according to Refinitiv.
When earnings growth falls sharply, stocks often languish. That is especially true of socalled profits recessions, when earnings fall below their yearearlier level. The last time that happened was during the period spanning the third quarter of 2015 through the second quarter of 2016—a volatile time in which the S&P 500 gained all of 1.7%.
But profits recessions also tend to favor shares of the relatively limited number of companies that are able to keep growing strongly.
That doesn’t appear to have happened yet. Instead, the rebound in the stock market off its late December lows has been wide-ranging, including the shares of all manner of companies.
Rather than wiping their brows with relief that the fourth quarter wasn’t so bad, investors should start looking to the future and picking winners.