This current earnings season is shaping up to be a fine one, with most companies surpassing expectations. The outlook for the current quarter is not so encouraging.
With a little less than half of the companies in the S&P 500 having reported their quarterly earnings, we’re starting to get a very good picture of how well we did in the last quarter. Increased earnings per share is a good thing, as is exceeding expectations based upon our forecasts.
What’s also important is where we’re headed in the next quarter and beyond, because once these announcements are made, stock markets will price in the new news, and where we go from here depends on what is on the road ahead.
We also need to compare the previous quarter’s results with recent ones, to see if we are in a trend one way or the other.
The overall growth consensus among analysts was nicely positive in December, coming in at 12.8%. That in itself would be a fairly encouraging number, if not for the fact that this was only half of the average of the first three quarters of 2018 of 25.5%. It’s also the lowest number since the third quarter of 2017.
When we take this all in, this would appear to suggest more of a slowdown in growth than increased growth, and while last quarter’s results may be turning out fine generally, next quarter may not be so rosy.
Earnings Reports Have a Big Impact on Stock Prices
Earnings per share plays a central role in the health of stocks, even though people generally seek capital appreciation more than they do income from dividends when they invest in stocks long-term.
Earnings results tell the story of the company’s bottom line, and this is a story that the market listens very closely to, and is quick to reward positive results and also quick to punish those whose earnings disappoint or have a dimmer view of the future than we may have believed.
We need not even wonder about the appropriateness of such reactions, as if we see them as over-reacting or under-reacting, they have priced in the news in the manner they wished to, and the market always has the final say as far as stock prices go.
This downtrend in earnings growth is even more important to a company than downturns in the economy itself, as a company’s earnings are a direct reflection of the sum of all forces upon its business, providing us the net effect of everything.
Analysts see such factors as the trade war with China, the strengthening dollar, and rising input costs as weighing down their earnings expectations for the current quarter. Less trade, getting paid less for your production, and having it cost more are all things that should indeed concern us to the extent that they are present.
There are two sides to this equation though, which are business challenges such as these, and the capacity of businesses to adapt to these changing circumstances, as well as their ingenuity in keeping the company moving forward overall.
Declining Business Conditions Has to Be a Concern
Still though, these are significant factors that we are talking about, and are bound to have an impact upon things no matter how adept we may be to compensate for their effects. It does not seem to be unreasonable at all to think that our current quarter will see earnings not slow down somewhat over the pace we’re on.
The market did take a hit in Q4 of course, with the S&P 500 dropping by 14% and ending the year with a 5% loss. Things are looking more promising on that front a month into the new year, but we’re still down a significant amount from where we were to start the last quarter.
Growth estimates for earnings per share is at least not in harmony with the bump up that we got in the markets in January, and even those reduced expectations are becoming even more lowered as the new quarter progresses and get nearer to where the results will be marked.
This growth estimate is currently showing a decline of 0.9%, and if this ends up being the case once the numbers are in, it would represent the first time since the second quarter of 2016 that this has happened.
Revenue is also expected to decline in the current quarter, with growth estimates averaging 6.4%, in contrast with the 9.7% average we saw in the first three quarters of 2018. Declining revenues and declining earnings do go together a lot.
There are a lot of things that can be looked at when forecasting future stock prices, although earnings are a very influential factor in moving them and must be given the regard it merits and demonstrates.
We do need to realize though that it’s more the deviation from expectations that changes things, and lowered earnings projections in themselves already announced should not really concern us when we’re looking at where we are now and where we are headed, which is the task here. These predictions become priced into the market as they become cast, and it’s really only when their expectations end up being too high that it’s time to get very concerned.
These forecasts are on the decline though, so this will certainly bear watching.