The Big Picture
The second quarter has drawn to a close, but it's not over yet for the stock market. In the coming weeks, there will be regular reminders of the second quarter when corporate America reports its earnings results for the April-June period.
Expectations are high ahead of the reports.
Some Shine on Income Statements
We can say expectations are high knowing that the S&P 500 and Nasdaq Composite are trading at record levels. You don't get to those heights if expectations are low.
According to FactSet, the blended second quarter earnings growth rate (combined actual results with estimates for companies that have yet to report) is 8.7%. That is down slightly from the 9.0% growth rate expected at the end of the first quarter; however, it marks the highest growth rate since the first quarter of 2022.
Revenue growth is projected to be 4.4%, which will be the 15th consecutive quarter of revenue growth for the S&P 500.
With the pace of earnings growth expected to be roughly twice the pace of revenue growth, it is clear that analysts are expecting to see expense-savings efforts shine through on income statements.
The top line may just be a stronger focus this reporting period than the bottom line. The reason being is that investors will be scrutinizing the state of pricing power and whether it is waning due to weaker demand. If so, it will start to raise questions about the underlying strength of the economy and the achievability of earnings prospects in coming quarters.
Companies losing pricing power on weakening demand will presumably have to resort to cost cuts to deliver stronger earnings growth and that could very well entail job cuts.
Analysts are projecting 8.1% earnings growth for the third quarter and 17.3% earnings growth for the fourth quarter, according to FactSet, making it clear that earnings growth expectations for the back half of the year are high as well.
Size Matters
Turning back to the second quarter reporting period, expectations are highest for the mega-cap companies. That doesn't necessarily translate into the growth rates per se for each of them, so much as it pertains to their ability to deliver not only on what is expected of them in the June quarter, but also with their guidance.
The communications services sector, which houses Alphabet (GOOG) and Meta Platforms (META), is expected to deliver 18.7% earnings growth. The information technology sector, which is where Apple (AAPL), Microsoft (MSFT), and NVIDIA (NVDA) reside, is expected to deliver 15.7% earnings growth. And the consumer discretionary sector, home to Amazon.com (AMZN) and Tesla (TSLA), is expected to deliver 7.3% earnings growth.
The health care sector, which is where Eli Lilly (LLY) is in residence, is expected to deliver 16.8% growth.
Strikingly, both the utilities sector and the energy sector are expected to deliver 10.6% and 10.2% earnings growth, respectively, which is ahead of the consumer discretionary sector. Their combined market weight of 5.85%, however, doesn't come close to the 10.1% weighting of the consumer discretionary sector; moreover, the $2.72 trillion combined market value of those two sectors, which include 53 companies, is 5.6% less than the market value of Amazon.com and Tesla -- just two companies -- combined.
Size matters in a market-cap weighted index.
The stocks mentioned in this space account for 37.5% of the market value of the S&P 500. They will move the market -- and they have moved the market, which is why their results and guidance will be integral in driving investor sentiment.
What It All Means
The banks will get things going on the reporting front. JPMorgan Chase (JPM), Citigroup (C), Wells Fargo (WFC), and BNY Mellon (BK) will all post their results before the open on July 12.
True to form, one shouldn't expect any specific EPS guidance from them. What will register more is their qualitative assessment of loan demand and loan quality and the provisions they are taking (or not taking) for loan losses.
After their reports, the spigot will open in the back half of July to include results from all other sectors. The second quarter reporting period will then start winding down and will be largely complete by the middle of August.
That is when the stock market will say good-bye to the second quarter, but it will be saying hello to the earnings estimate trend throughout the reporting period.
Currently, the forward 12-month EPS estimate stands at $260.28, according to FactSet, versus $249.96 at the end of the first quarter. At its current price, the market-cap weighted S&P 500 trades at 21.3x forward 12-month estimates, which is a 19% premium to its 10-year average (17.9x).
The corresponding PEG rate, or price-to-earnings growth rate, is 1.28, which is actually lower than the 1.41 PEG rate for the equal-weighted S&P 500, which trades at 15.9x forward twelve-month earnings. The lower PEG rate for the market-cap weighted S&P 500 has been planted by the stronger earnings growth prospects for the mega-cap companies.
It is a reminder of how important these companies are in driving earnings expectations, which drive the index. Those expectations are high and for good reason. They are not to be messed with or a pretty-looking price trend for the market-cap weighted S&P 500 would be upended.
--Patrick J. O'Hare, Briefing.com
(Editor's Note: The next installment of The Big Picture will be published the week of July 15.)
