Last month in my Monthly Strategy update I spent a lot of time emphasizing how important it is to own companies whose earnings estimates are likely to remain steady or better yet increase and avoid those that need to cut earnings guidance.  We saw some of that in this past earnings season but not a lot.

If we step back and look at the S&P 500 index, it is really quite remarkable how EPS growth has hung in there in spite of brutal prior year comparisons.  In the graph below, you can see how the big EPS declines of 2020 created easy comparisons for 1H 21.  In fact, the stimulus fueled 2021 generated enormous EPS growth in each quarter.  Now, the simple math would have suggested that EPS growth for 2022 and, in particular, in 1Q22 and 2Q22 were very likely to be quite weak and possibly negative but they were not.  In 2Q22, the S&P 500 companies grew EPS 12.3% y/y.  This is a remarkable feat (see the Annual EPS Growth chart further below).  The market index does not often generate 12.3% earnings growth and to do it when comping over a 52.3% growth rate is incredible.  My point is the optics of deceleration from the insane economic growth of 2021 has produced confusion among investors.  Underlying it all, is a lot of earnings power even in the face of one year of elevated inflation and rising interest rates.

But the key going forward are the market’s EPS estimates.  And, for now, the market seems to have a reacceleration in EPS growth starting in 4Q22 and continuing into 2023.  If this were to occur, this would provide a positive upward bias to the market.  If these estimates are correct, this EPS growth pivot is happening right now and begs the utmost attention.  Stocks generally work higher when EPS growth is accelerating.  While we still haven’t changed our rather defensive positioning, this data may be suggesting that we are coming out of the shallowest, shortest “recessions” ever.  It is important to point out, however, that the macroeconomic headwinds could grow sufficiently to required lowering these earnings forecasts.  Nevertheless, with the consensus opinion on the market and the economy at very negative levels as seen by the Conference Board and University of Michigan sentiment surveys in recent months, it stands in opposition to the optimism of companies’ outlooks compiled in the estimates above.

Disclosures

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