Nobody likes to talk about their failures, but the persistence it takes to overcome failure can be more transformative than any success.
Some high-profile failures: Michael Jordan was cut from his high school basketball team for not being good enough. Dr. Seuss’s first book was rejected by 27 publishers before it was accepted. And Thomas Edison was told growing up that he was too stupid to learn anything.
The S&P 500 has failed to make new highs since hitting its January peak. But it managed to clear some pretty important hurdles this week. China’s President Xi Jinping offered to further open China’s markets, jump-starting investors’ hope that a trade war can be averted. Then Facebook CEO Mark Zuckerberg held his own while being grilled for hours on company practices by members of Congress.
As the week draws to a close, amazingly strong Q1 earnings reports are expected to start rolling in. Industry analysts polled by Thomson Reuters are expecting that S&P 500 companies’ earnings jumped by 18.5% y/y in Q1, with S&P’s frozen actual methodology showing expected growth of 17.0% (Fig. 1). Thomson Reuters’ number comes down only slightly, to 16.7%, if Energy sector earnings—expected to pop—are backed out of the mix.
Let’s take a deeper dive into what’s expected during the Q1 reporting season:
(1) Top line looks good. Undoubtedly, the Trump tax cuts are boosting companies’ bottom lines. But the overall strength in the economy shouldn’t be underappreciated. Analysts currently estimate that S&P 500 Q1 revenues grew 7.3% y/y, and there’s no reason to believe they were directly boosted by the tax cuts enacted at the end of last year.
The expectation for Q1 earnings growth has jumped roughly six percentage points since the beginning of the year, when it was 12.2%. Estimates for Q1 revenues haven’t increased as sharply. They were expected to grow by 7.0% during Q1 at the start of the year, versus the current 7.3% estimate.
(2) Broad-based growth. All 11 S&P 500 sectors are expected to see Q1 earnings grow y/y. Here’s the derby for the S&P 500 sectors’ expected Q1 revenues and earnings growth, (ranked by earnings): Energy (14.5%, 70.8%), Materials (11.6, 27.0), Financials (3.0, 24.6), Tech (13.9, 23.4), S&P 500 (7.3, 18.5), Industrials (7.5, 14.1), Telecom (4.0, 12.8), Health Care (6.4, 11.0), Consumer Staples (4.4, 10.7), Utilities (1.9, 9.8), Consumer Discretionary (6.5, 9.4), and Real Estate (6.9, 2.9).
The Energy sector is expected to have the largest pop thanks to the jump in the price of a barrel of Brent crude oil to $71.95 yesterday from $56.23 a year ago. Q1 earnings estimates for the Energy sector have improved 15.4% since December 29, 2017. All the other sectors except Real Estate also saw earnings estimates improve since year-end.
Here’s how consensus earnings estimates for Q1 have changed since year-end: Energy (15.4%),Telecom Services (14.4), Financials (11.8), Utilities (6.4), Consumer Discretionary (4.5), Health Care (3.9), Industrials (3.6), Consumer Staples (2.1), Tech (1.2), Materials (0.5), and Real Estate (-6.8) (Fig. 2).
(3) Forward estimates improving too. The Energy sector has also enjoyed the largest percentage increase in forward earnings over the last 13 weeks, 21.2%. The Oil & Gas Drilling industry’s forward earnings has turned positive for the first time since March 2016, and the Oil & Gas Exploration & Production industry’s forward earnings has improved by 66.6% (Table 1).
Outside of the Energy sector, the wide array of industries that top the list of most improved forward earnings estimates over the past 13 weeks attests to the economy’s broad-based strength: Department Stores (27.6%), Trucking (20.1), Construction & Engineering (21.5), Railroads (17.7), General Merchandise Stores (19.1), Aerospace & Defense (18.5) and Homebuilding (14.6). The only sector to have its forward earnings estimates cut is Real Estate, with a 2.8% decline.
Assuming a trade war will be averted, as we do, the good times are expected to continue for the remaining quarters of 2018. Analysts are calling for S&P 500 earnings to grow by 19.7% in Q2, 22.1% in Q3, and 19.1% in Q4. Even when comparisons get more difficult in Q1-2019, earnings are forecasted to rise 10.6%. These growth rates would continue to push earnings to new record highs. Our message to the S&P 500: If at first, second, and third, you don’t succeed to rebound back to new highs, try, try, and try again.
Dr. Ed Yardeni is the President of Yardeni Research, Inc., a provider of independent global investment strategy research.
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