|
Source: LPL Research, FactSet 06/27/24
Past performance is no guarantee of future results. All indexes are unmanaged and can’t be invested in directly. Estimates may not materialize as predicted and are subject to change.
Last quarter the “Fab 5” consisting of Alphabet (GOOG/L), Amazon (AMZN), Meta (META), Microsoft (MSFT), and NVIDIA (NVDA), drove 7.8 points of S&P 500 EPS growth, which was actually slightly more than the rest of the index (“the 495”). In other words, those five companies drove all of the S&P 500’s earnings growth and earnings for the 495 were just shy of flat.
Turning to this quarter, the contribution from mega cap technology will be big again, but we should start to see some contribution from the rest of the market. Based on current estimates, the “Super Six” is expected to drive 4.8 points of S&P 500 earnings growth. (We added back AAPL for its expected return to earnings growth in the second quarter, while we leave out Tesla (TSLA) from the original Magnificent Seven because of its more than 30% expected earnings decline.)
This leaves about four points of S&P 500 EPS growth from the rest of the index, which will likely come from healthcare, financials, energy, and utilities. The reversal in healthcare and energy earnings is a big reason why tech will get some help. Healthcare sector earnings fell 25% year over year in the first quarter, in large part due to losses absorbed from acquisitions by Bristol Myers Squibb (BMY). This quarter, the sector is expected to grow earnings by nearly 17%. Energy should be able to stage a similar turnaround, with consensus estimates calling for a 13% year-over-year earnings increase in the second quarter after a 26% decline in the first quarter.
REASONS TO EXPECT GOOD NUMBERS
It won’t take much upside to get to double-digit earnings gains, but there are several reasons to expect a few percentage points of upside, which is typical:
▪ Estimates have been resilient. S&P 500 companies in aggregate generated four percentage points of upside in the first quarter despite the big healthcare drags to get to that final increase of over 7%. Estimates dipped heading into last quarter’s results, by 2.5%, and we’ve seen the same again this quarter, though not as much (from 9% to 8.8%). While resilient estimates raise the bar and make it harder to clear, they also point to analysts’ confidence in the underlying earnings power of corporate America, a confidence we share. Earnings misses are rare (less than 1 in 10), but without cracks in estimates, we believe an overall earnings miss is even more improbable.
▪ Steady economic activity. Disinflation is getting most of the attention — and probably justifiably so — given the impact on consumer spending and interest rates. But economic activity in the second quarter rose steadily based on several metrics. The Atlanta Federal Reserve’s GDPNow tracker points to 2.2% second quarter gross domestic product (GDP) growth. The U.S. ISM Services Index jumped more than four points in May to near 54, firmly in an expansion territory, and most of the U.S. economy is services-based.
▪ Asian export activity bodes well for technology. Historically, S&P 500 earnings growth and Korean export activity have been well correlated. With the rise of Taiwan Semiconductor (TSM) as a key chip supplier, we watch economic data out of Taiwan as well. A lot of technology equipment sold by U.S. companies globally has key supply hubs in Asia. Korean exports to the U.S. rose 25% in April year over year (YoY) and 15.6% YoY in May. Taiwan’s exports to the U.S. rose 80% year over year in April before cooling to a still huge 36% increase in May.
However, there are also several reasons upside may be less than recent trends. First, the strong U.S. dollar will clip foreign earnings for U.S. multinationals by a percentage point or so. Second, the ISM Manufacturing Index, which has also correlated well with earnings, remains below the 50-breakpoint marking expansion. And third, the economic surprise indexes we follow, from Citi and Bloomberg, have both been sliding, suggesting managements’ guidance last quarter may have assumed better economic conditions.
EARNINGS SEASON AS A CATALYST
One of the most difficult questions to answer about earnings seasons is whether results will be a catalyst for stock market gains. For answers to tough questions, we turn to the data.
Our bias remains that a pullback is overdue, and we would recommend investors not chase this rally but rather wait for a dip to buy. That said, based on the data, the next six weeks of earnings results may not offer that opportunity.
As illustrated in the chart below, in recent years, stocks have done better during the heart of earnings season (from quarter end through the middle of the next month) than they have during the off weeks. We understand some companies report outside of this window, including NVDA, but to keep the time frames equal and keep the analysis simple, we split quarters into halves. Since 2020, the S&P 500 has gained an average of 4% during the first half of the quarter when the bulk of earnings are released, compared to flat average performance during the second half of the quarter when fewer companies report.
So while our expectation is for stocks to pull back at some point this summer, this analysis suggests a dip may not emerge until August after most of the earnings news is reflected in stock prices.
STOCKS HAVE GENERALLY DONE BETTER DURING THE EARNINGS-HEAVY HALF OF THE QUARTER
| 
