Wednesday, December 6, 2023

Are Earnings Estimates at Risk of Big Cuts in the Days Ahead?

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Note: The following is an excerpt from this week’s Earnings Trends report. You can access the full report that contains detailed historical actual and estimates for the current and following periods, please click here>>>

Here are the key points:


  • Many in the market consider current earnings expectations to be too high and fear that the Q4 earnings season will cause estimates to be significantly lowered.


  • For 2022 Q4, aggregate S&P 500 earnings are currently expected to be down -7.6% on +4.0% higher revenues. The -7.6% earnings decline today is down from +1.7% on October 5th.


  • In the aggregate, 2022 Q4 earnings estimates for the S&P 500 index have declined -8.9% since the quarter got underway, with roughly a third of the cuts coming from the Zacks Technology sector.


  • Earnings estimates for full-year 2023 have been coming down as well. From their peak in mid-April 2022, the aggregate total for the year has been cut by -9.8% for the index as a whole and -12% excluding the Energy sector’s contribution.

The big question surrounding the 2022 Q4 earnings season is not so much about earnings growth for the quarter or what proportion of the S&P 500 members will end up beating consensus estimates, but rather what these results and the associated management commentary and guidance will tell us about the evolving earnings outlook for 2023.

The fear in the market is that we may be on the cusp of an earnings cliff, with the combined effects of softening demand resulting from the extraordinary Fed tightening and persistent cost pressures prompting management teams across many industries to provide downbeat guidance.

Keep in mind that it isn’t a new fear; we had something similar in place ahead of the start of the preceding reporting cycle (2022 Q3) as well, though the fear appears to be somewhat more widely held this time around.

Related to this fear is the view that current earnings estimates remain elevated and need to get cut significantly to get in-sync with the unfolding economic ground reality.

We don’t agree with this view, but see this picture unfolding only in the backdrop of the U.S. economy heading towards a ‘hard landing’. We see the risk of such a ‘hard landing’ as increasing if the Fed persists in its tightening policy beyond what the market has already priced in. But a hard-landing for the U.S. economy isn’t our base case, which makes us a lot more sanguine in our earnings outlook given how much estimates have come down already.

The four largest banks – JPMorgan (JPM), Bank of America (BAC), Citigroup (C) and Wells Fargo (WFC) – that are deck to kick-off the Q4 reporting cycle for the Finance sector have been net beneficiaries of higher interest rates through improved margins. But most of them have suffered some estimate cuts, though significantly smaller than what companies in the Tech, Consumer Discretionary and Construction sectors have already endured.

For example, Citigroup’s current Zacks Consensus EPS of $1.18 for Q4 has declined -10.6% over the past two months while the same for Wells Fargo has been cut by a far more dramatic -50% over the past month. Even JPMorgan and Bank of America have endured modest cuts to estimates.

Estimates have come down a lot more notably in a broad swath of industries relative to what we noted for the four big banks. You can see this in the revisions chart below that show how earnings growth expectations for the 2022 Q4, as a whole and on an ex-Energy basis, have since the quarter got underway.

Zacks Investment Research
Image Source: Zacks Investment Research

Estimates have come down significantly for full-year 2023 as well, with the chart below showing the evolution of aggregate earnings estimates for the year since the start of 2022.

Zacks Investment Research
Image Source: Zacks Investment Research

As noted earlier, the current aggregate earnings total for the index approximates to an index ‘EPS’ level of $220.9, down from $242.98 in mid-April, 2022. The chart below tracks these index ‘EPS’ values since the start of 2022. Please note that these ‘EPS’ values are imputed approximations and have been previously published on the dates listed in the chart below.

Zacks Investment Research
Image Source: Zacks Investment Research

Estimates for the Energy sector have started coming down lately as well. But for a long stretch last year, they were steadily going up. The 2023 negative revisions trend becomes even more pronounced on an ex-Energy basis, as the chart below shows.

Zacks Investment Research
Image Source: Zacks Investment Research

The Overall Earnings Picture

The chart below provides a big-picture view of earnings on a quarterly basis. The growth rate for Q4 is on a blended basis, where the actual reports that have come out are combined with estimates for the still-to-come companies.

Zacks Investment Research
Image Source: Zacks Investment Research

The chart below shows the overall earnings picture on an annual basis, with the growth momentum expected to continue.

Zacks Investment Research
Image Source: Zacks Investment Research

As you can see above, earnings next year are expected to be up only +1.8%. This magnitude of growth can hardly be called out-of-sync with a flat or even modestly down economic growth outlook. Don’t forget that headline GDP growth numbers are in real or inflation-adjusted terms while S&P 500 earnings discussed here are not.

As mentioned earlier, 2023 aggregate earnings estimates on an ex-Energy basis are already down by almost -12% since mid-April. Perhaps we see a bit more downward adjustments to estimates over the coming weeks, after the Q4 reporting cycle really gets underway. But we have nevertheless already covered some ground in taking estimates to a fair or appropriate level.

This is particularly so if whatever economic downturn lies ahead proves to be more of the garden variety rather than the last two such events. Recency bias forces us to use the last two economic downturns, which were also among the nastiest in recent history, as our reference points. But we need to be cautious against that natural tendency as the economy’s foundations at present remain unusually strong. 

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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