Corporate profits are once again taking center stage as first quarter earnings season picks up this week.
Fourth quarter 2018 S&P 500 earnings per share grew in the double digits for the fifth consecutive quarter. Earnings growth has become more elusive this year in the face of slowing economic growth, cost pressures and tough comparisons as the year-over-year tax benefit went away in the first quarter.
According to FactSet, first quarter earnings per share in the S&P 500 are expected to fall 4.3% year-over-year with revenue up 5%. Earnings grew 25% with revenue up 9% in the first quarter of 2017. We are facing especially tough comparisons as tax cuts injected a fiscal boost into the market just over one year ago.
Earnings growth for the S&P 500 has been positive ten straight quarters. In fact, every sector other than utilities reported earnings growth for five consecutive quarters. That streak will come to an end in the first quarter.
Expectations for the first quarter have come down markedly in recent months. First quarter earnings were expected to grow 2% three months ago and 6% six months ago. To be fair, analyst estimates for the out-quarters tend to be optimistic (2018 was an exception). Meanwhile, earnings tend to come in modestly higher than Wall Street's projections heading into the reporting season, which are based on companies' conservative forecasts. As a result, earnings have the potential to come in roughly flat.
Mid-single digit top-line growth indicates that economic activity remains quite healthy. However, cost pressures are being driven by higher wages in the US, trade uncertainty, softness overseas, and foreign exchange headwinds. Pressures from higher interest rates should have backed off following the Federal Reserve's dovish U-turn in January.
- First quarter earnings growth expectations by sector: health care +4%, utilities +4%, real estate +2%, financials -1%, communication services -2%, industrials -2%, consumer staples -5%, consumer discretionary -6%, information technology -11%, materials -13% and energy -25%.
Second quarter earnings are currently expected to fall 0.3% with revenue up 4.4%. Estimates for the following quarter tend to come down during earnings season as companies set the bar to an appropriate level, leaving room for upside three months down the road. Earnings are expected to return to modest 1.4% growth in the third quarter and to accelerate in the fourth quarter.
Looking at 2019 as whole, earnings are expected to grow 3.5% with sales up 4.7%. Earnings were expected to grow 6.6% in 2019 with sales up 5.4% three months ago. Recall, we face tough comparisons as earnings grew 20% with sales up 9% in 2018.
While an earnings recession (two consecutive quarters without earnings growth) is possible this year, investors seem unfazed given the difficult comparisons from last year's tax cuts and the largely benign economic outlook.
Market appreciation of 16% year-to-date has come entirely on multiple expansion. According to S&P Capital IQ, the S&P 500 trades at 17x 2019 earnings estimates, which is above the thirty-year average just over 16x.
This week's earnings will be dominated by financials and other mega-cap stocks but then volume will pick up for three very heavy weeks of earnings reports.
Notable earnings out this week include:
- Tuesday: Bank of America (BAC), BlackRock (BLK), Johnson & Johnson (JNJ), United Health (UNH)... IBM (IBM), Netflix (NFLX), CSX (CSX), United (UAL)
- Wednesday: Morgan Stanley (MS), Abbott Labs (ABT), PepsiCo (PEP), U.S. Bancorp (USB)... Kinder Morgan (KMI), Las Vegas Sands (LVS), Alcoa (AA), Atlassian (TEAM).
- Thursday: American Express (AXP), Taiwan Semi (TSM), Honeywell (HON), Schlumberger (SLB), Travelers (TRV), Union Pacific (UNP), Danaher (DHR)... Intuitive Surgical (ISRG)
- Friday: Markets closed in observance of Good Friday