Earnings Estimates Rise: The Surprising Resilience of Corporate Earnings

Last Edited by: LPL Research

Last Updated: May 03, 2023

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Jeffrey Buchbinder (00:00):


Hello everyone, and welcome to the latest edition of LPL Market Signals. Jeff Buchbinder here today with you, along with my good friend and colleague, Quincy Krosby. Now Quincy, thanks so much for joining us today. You got thrown into the rotation unexpectedly because Jeffrey Roach had an unexpected conflict. He's traveling and wasn't able to work this into his very busy schedule. So, we swapped guests today. But no matter who we have, we're going to have a great discussion. It is May 1, 2023, as a reminder for our friendly compliance people and anyone who listens to this later. And let's get right into it. So, here's our agenda for this week. We've got a, you know, the market recap that we always have. We have a Fed preview, of course, probably the biggest event of the week is the Fed, but we have a lot of earnings, including the big name Apple reporting this week.


Jeffrey Buchbinder (01:06):


So, we'll talk about earnings because we're a little over halfway through earnings season. And believe it or not, estimates have been rising. I think this title sums it up. Wait, what? <Laugh>, because I don't think too many people expected earnings estimates to rise during earnings season. They do not typically do that. And in this environment, especially, where many think, including ourselves, that we'll probably end up in a mild recession here before too long. That doesn't make a lot of sense to people. So, we'll try to unpeel that. And then lastly we'll look at the other events of the week. Actually, the jobs report would normally be the highlight of the week, but there's just so much else going on that it'll get attention. But maybe not as much as it usually does. So starting with the recap.


Jeffrey Buchbinder (01:56):


So last week S&P 500 was up, Quincy, but not up huge. And as you can see here, for those looking at the chart, we're at the high end of this range, pretty much right at the February highs. So, I'll give you the first question, Quincy, is why do stocks continue to go higher? Because, you know, we just had another bank failure over the weekend in First Republic Bank, and there's certainly a lot of reasons to be cautious here in terms of the economic environment. And yet, stocks keep going up.


Quincy Krosby (02:31):


Well, the companies are coming out with some really attractive reports, not to mention guidance. We had a host of companies on the consumer staple side coming out and just saying, we're raising prices, and consumers are buying. And they confirm their full year guidance. Everything from Johnson and Johnson, which is on the pharmaceutical side, to Proctor and Gamble, to Coca-Cola, to PepsiCo, Chipotle was, was strong. That was very helpful. And then over on the tech side we had a string of positive reports. Now, granted, a lot of people point to Amazon, but you know, when the initial report itself came out it was greeted with open arms by the market. Many people said that was the algorithms reading it, but obviously what hurt Amazon, day of the earnings, was the guidance in the call that, you know, many of their customers are budgeting in terms of cloud. And the guidance was fairly cautious. And that really, I think, hurt Amazon share price for a number of training sessions. But overall, it's been positive.


Jeffrey Buchbinder (03:51):


I think you hit nail on the head there, I would attribute most of the gains last week to earnings. And then you had you know, maybe the market expressing some comfort with the banking situation. Yeah, yeah. Even as sentiment has been certainly leaning bearish of late. Yeah. Here are the market returns intermarket or regional returns for past week. You see here the S&P up, you know, almost 1% for the week. Yeah. You know, kind of more mixed in Europe you know, not particularly exciting moves there. I think what's most interesting is on the sector side, you see these really big weeks for tech and communication services, and that is where Meta and Microsoft live, those stocks surged on earnings results. Yeah. Yeah.


Jeffrey Buchbinder (04:43):


Right. I mean, certainly I think it's fair to say that the demand picture, the revenue picture was a little bit better than people thought. But you also have, I think, the market celebrating the cost controls that we've seen there as well. You've certainly, we don't let anybody lose their job, but you've seen a number of companies highlight cost cuts and supporting margins and, you know, seemingly helping lift these stocks. So, that's probably the thing that jumps out the most to me on this page. But you also have, you know, kind of a cyclical defensive dynamic going on where the more economically sensitive sectors have done better recently. Right. And the defensives I mean, you see, you've got declines for healthcare, declines for utilities, at least last week. And I mean, staples was in line, but you know, the, the winners were the ones that were economically sensitive. So, anything to add to that, Quincy, before we move on?


Quincy Krosby (05:39):


Yeah, I would, some of the names coming under industrial, whether they were the defense stocks, whether they were the machinery and many of the stocks within the industrial sector, so associated with them, this is just an example, but take a look at Honeywell, for example. All of all of those performed rather well suggesting that there is growth. Suggesting that there's demand.


Jeffrey Buchbinder (06:11):


Absolutely. Yeah. Capital expenditures have hung in there pretty nicely. I think there's some productivity investment mm-hmm. <Affirmative> going on with a lot of the companies in the industrial sector, a sector that we still like. So, good point, thanks for bringing that up, Quincy. The you know, the fixed income markets were, yeah, I guess you could say strong last week. You know, we had, I guess rates come down, they like the inflation data recently, these are really strong weekly numbers. You know, a lot of the bond index is up almost 1%. But what's most interesting to me on this table is the oil movement, right? That drove the energy down. Oil was down a little over 2% last week, led to the energy sector weakness, energy down again today at last check. It's Monday afternoon as we're recording this, because of the weak Chinese PMI data. So, Quincy, is the China reopening fizzling out, or is this one of those cases where you just say one month doesn't make a trend and you know, things are kind of progressing as expected? What do you think?


Quincy Krosby (07:22):


I think it's just the momentum you know, has eased. I mean, there was such exhilaration by the market when the curbs were lifted in terms of COVID. And then ultimately so many people got COVID in China. But I think that the momentum is there. It's begun with the consumer spending. We saw those numbers, they were very strong. And as the year progresses, we're expecting that the economy will be underpinned by more sectors than just the consumer sector.


Jeffrey Buchbinder (07:56):


The consumer sector should certainly get a boost from lower inflation. Yeah. Lower energy prices. That's certainly been happening in recent months. So, let's go to the Fed. Now, Quincy, this is again, probably the biggest event of the week. Even though the market is already pricing in a 25 basis point hike the, you know, guidance or whether they pause is certainly an open question or how hawkish the message will be. So, you know, I'll set this up and then I'll turn over you. So, I think it's interesting to look at how restrictive the Fed is right now by comparing the fed funds rate to the inflation rate. So, we use the Fed's preferred inflation measure, the core PCE deflator, that's the blue line on this chart. And it is actually now below the fed funds rate based on the upper bound.


Jeffrey Buchbinder (08:56):


The fed funds rate is a range. So, what this means is that they are restrictive, right? Because another way to say that is real rates, inflation adjusted rates, are positive, they're restrictive, and we haven't even seen much impact from the banking stress, right? And inflation is falling and will likely continue to fall. We don't know necessarily how fast, but continue to fall. And so what that means is that this fed funds rate is going to be well above the inflation rate pretty soon here, because we're going to get another rate hike. And then we're probably going to sit there for a bit while inflation falls and while the economy presumably continues to slow. So, I think the Fed, I think you probably agree with me, Quincy, is going to be real careful after this hike this week, most likely. And it's going to be tough to hike in June. So, I'll put up the fed funds futures curves here. This is the curve this month versus last month where you can see the market's pricing in cuts. So, the first question is, are we going to get a clear pause, Quincy? And then the next question is, will the market start to unprice these rate cuts that are priced in for the second half of the year? I think the market's still looking for three cuts.


Quincy Krosby (10:16):


Right? You know, the problem that the Fed has, I mean, it's a problem I think any Fed at this particular time make up of a Fed, is that if it's a dovish pause, the market takes off. And that's not exactly what the Fed wants, right? They want tighter conditions. The market takes off, the dollar weakens even more, which is also global for the global economy. It tends to be an easing. So that's the difficulty that the Fed has. But there's another difficulty, and that is that we're seeing the prices paid component of some of the regional reports on manufacturing. But today, this is Monday, the Institute for Supply Management purchasing manager manufacturing side of the equation, not the consumer side, service sector showed that a tick up, which was good news, right?


Quincy Krosby (11:19):


Because it's been in contraction territory for so many months. So, we saw a tick up, which is good, except that the prices paid component really is hot. This is something that has to bother the Fed because they simply don't want to have, you know, a slowing economy and prices continuing to climb. I hate to say it, it's the S word. But they're talking about stagnation light, perhaps seeping in. That's something that Powell does not want to see because, you know, he talks about it, Jeff, so many times in his speeches, they don't want to repeat the mistakes of the 1970s. So, I can't imagine that they're going to come in with a dovish pause if they do pause. I think it's going to tell the market, look, we're still watching for inflation. We're not giving up. We're not terminating at this point, that's my take on it because that price is paid. That is significant.


Jeffrey Buchbinder (12:24):


Yeah. It, it is going to be, I think, real convenient for Powell to be data dependent, right? Yes. And leave the door open Yes. And leave the flexibility, right, the optionality to do something different. Exactly.


Quincy Krosby (12:36):


Exactly. But yeah,


Jeffrey Buchbinder (12:39):


Again, it's going to be tougher for the Fed to hike in June. Could they? Sure. I think you looked at this, right? Aren't the odds about one in three


Quincy Krosby (12:48):




Jeffrey Buchbinder (12:49):




Quincy Krosby (12:50):


Yeah, but I can tell you that after the prices paid component came out, when the ISM report came out today. Now look we'll at the service sector ISM report later this week. But when the manufacturing came out, this is what happened automatically, the dollar climbed, right? And why would it climb? Because it says, gee, the Fed may not be as dovish if they do pause, maybe they will be a little bit more hawkish in the pause if they pause. That was one thing. The second thing that happened was that the 10-year Treasury yield inch higher, and then the third thing that happened was the U.S. dollar climbed a bit. So, all of that suggests that the market took notice of that. It wasn't neutral, it wasn't well, but this doesn't really matter. The market certainly took notice of it. And I would imagine that the Fed is paying close attention to it as well and looking to see are we seeing prices paid across the board? And I'm sure they have their economists working on that.


Jeffrey Buchbinder (13:50):


We know that rents have been slow to come down, or at least rent increases have been slow to ebb, maybe is a better way to put it. And then we know the, you know, employment cost index wasn't particularly great for the first quarter. So, yeah. You'll hear that they have more work to do. They're not going to declare victory. But I think if you could fast forward a month yeah, they'll see enough for five, six weeks whenever the next meeting is after the May meeting, they'll probably see enough evidence to support a pause. It's just not going to be a green light. I agree with you. It won't be green light, it won't be clear that it is a definitive pause.


Quincy Krosby (14:35):


And, Jeff, just to go back for one thing, because it is really important on, in terms of the rents, every industry report suggests the rents are coming down and at some point it's going to hit the CPI first and the producer price not the producer pricing, the PCE Personal Consumptions Expenditures Price Index. We'll start to see it show up there. And that'll be significant in bringing the overall picture of inflation coming down in a more meaningful way.


Jeffrey Buchbinder (15:05):


Absolutely. So, let's shift to earnings. Now we teased this a little bit already in walking through some of the companies that drove the gains last week. But here we've got the, you know, aggregated numbers. This, this is really I mean maybe amazing is too strong <laugh>, but really impressive what happened last week. So, now we're tracking to about a 3% decline in S&P 500 earnings for Q1. Yeah. So that is, you know, a few points better than what we did in Q4. We're only about 60% done in terms of the number of companies that have reported. Yeah. So there's more upside to this, frankly, I don't think anybody would've said we had a shot at flat. I still don't think we're going to get to flat, but just to be able to do down one or down two


Jeffrey Buchbinder (15:57):


is really impressive upside. Because we were looking at down seven when earnings season began. Yeah, yeah. Based on Factset numbers. So, I think that's really key. And, but you know, similarly, I didn't think that we would be able to see earnings growth in Q3. That estimate there is hanging in there up 1.7%. You know, Q3 is always off, we get it. But if companies continue to execute the way they're executing and the economy holds up, maybe that Q3 number is pretty close to flat and maybe we can set up a Q4 rally on a really strong earnings rebound in Q4. That seems reasonable to me. We'll have to wait and see. But right now the consensus estimates are reflecting a little bit of a bigger decline in Q2 relative to Q1. Of course, we know that companies play this game Yeah.


Jeffrey Buchbinder (16:52):


Where they lower earnings estimates in them and then they allow themselves to beat them. So that's you know, kind of the growth trajectory in the high level picture. Here are the numbers and this is where I really want to zoom in on the estimates here, Quincy, because we know that estimates almost always fall during earnings season, right. Analysts come in too optimistic. In fact, on average estimates fall about 10% in an average year. And they fall about two and a half percent in an average quarter. At least that's been the recent, you know, trend in maybe recent decades. Estimates went up last week <laugh>, which is just amazing. I know, right? I don't think anybody expected that. And so, given how far along we are its possible that that, you know, $220 number for S&P 500 earnings in 2023 could hold through this entire earnings season when I think most people expected that to go down. I even expected it to drop, you know, maybe three to $5. It's hanging in there. So what do you attribute that to Quincy?


Quincy Krosby (18:02):


Well, like, you know, it's still a strong economy. It's interesting that the GDPNow, there are a number of GDPNow how do I say, forecasts, right? You've got the Atlanta Fed Now, and there are a couple of others, but they're trending for growth for the second quarter where we are at about, at this point, at about 1.7, 1.8%, the GDP. So, again, I say this? All of the recession talk, the recession talk gets pushed deeper into the year I mean by the time we get through it the market will be okay, bring on this recession because we're talking now about fourth quarter. And that is what's so interesting about this entire scenario. We'll get more about the labor market because again, the labor market is holding up and the path towards a recession invariably starts in the normal way from companies reporting tremendous pressure on their margins. Cost cutting, as you pointed out, cost cutting, that includes layoffs that lead to the unemployment rate climbing, and then that leads to consumer spending turning down. And then you do that for about two, three months, you've got a recession at this point. We don't see this trajectory.


Quincy Krosby (19:30):


Consumers are still spending, we see that from the earnings and companies are being more selective in what they're buying. But it isn't as if they've turned off the spigots entirely. <Affirmative>.


Jeffrey Buchbinder (19:43):


Yeah, absolutely. I mean, you know, to have, the way I would explain it is you have to inflate before you deflate, right? And so this economy might have to inflate a little bit more, right? Yeah. We might be late in this economic mini cycle.


Quincy Krosby (19:57):




Jeffrey Buchbinder (19:57):


Right? I mean, we just came out of recession, what, less than three years ago. Yeah. So we're having a, you know, kind of a compressed cycle. Some people think it's a continuation of the previous cycle on the pandemic, lockdowns don't really count. Whatever your view is on that. We're probably late cycle and it's just going to take a little bit longer than I think a lot of people thought to actually enter recession. Certainly, and we've talked about this for really a couple years now. Consumers have just so much cash, right? They can continue to pay those higher prices for those consumer goods that you mentioned with the Coca-Colas, the Pepsis, the Proctor and Gambles. We'll probably see consumers pay for iPhones, right, when Apple reports here a little bit later this week. So yeah, consumers are still hanging in there. In fact, the consumer discretionary sector has the best upside surprises of all 11 sectors so far. I mean Amazon's a a decent chunk of that, but I think the average upside surprise for consumer discretionary companies so far is over 20% on the bottom line. That's big.


Quincy Krosby (21:07):


What about home builders? That's amazing. Home builders up, up amid a mortgage rate that has been climbing. Home builders are up. That's the market doing its job. That's the market looking ahead.


Jeffrey Buchbinder (21:26):


Absolutely. I am stimulating the home improvement market. <Laugh>,


Quincy Krosby (21:31):


Same here


Jeffrey Buchbinder (21:32):


In the second quarter. You too?


Quincy Krosby (21:34):


Oh my goodness. Oh my goodness. <Laugh>.


Jeffrey Buchbinder (21:37):


Yes. Yeah. Look for my money in Home Depot in Q2, because there's survey,


Quincy Krosby (21:43):


They know my name at Lowe's. They actually know my name at Lowe's. Yes. They know me when I walk in. Don't have that many people working there, but they know my name.


Jeffrey Buchbinder (21:51):


Based on the number of trucks on my street. Home construction and home improvement are both booming, I can assure you. So, we'll see. Maybe we get a surprise again, you know, in next quarter's earnings season perhaps. And those components of consumer discretionary can continue to do well. So, let's preview the week ahead, Quincy, a little bit more <laugh> because we talked a lot about the week ahead already. Yeah. Because you mentioned the ISM and that prices paid component. You know, those of you with good eyes can see the prices paid component of the ISM jumped four points month over month. So, that was certainly a little bit disappointing for, you know, folks who are rooting for the Fed pause or pivot. But I would actually point to the bump up in the manufacturing index is certainly a positive.


Jeffrey Buchbinder (22:46):


Yeah. You know, it's kind of, it's not really a recessionary reading, but it's right on the line, I would say, to go up to 47.1. Yeah. Yeah. So certainly we know it's a slow environment. Sure. I guess I can't really argue if somebody claims that we have a mild manufacturing recession mm-hmm. <Affirmative> right now, or at least a mild manufacturing contraction right now. But remember the ISM is correlated well with earnings. Yes. And so if the ISM is maybe troughing in around this level, I mean, we don't know that, but if it is, that maybe adds to the earnings trough story. And then I actually brought up the point at our tactical investment committee meeting earlier today, that South Korean exports seem to be troughing and those are correlated well with earnings. Oh, yeah, yeah. Well closely tied to just global tech demand. Yeah. So, you know, maybe we're going to see a 5% or so earnings decline and that's about it. That would be very bullish because certainly people expect, you know, 10, 15% declines in earnings widely across this industry.


Quincy Krosby (24:00):


Yep. Yes.


Jeffrey Buchbinder (24:02):


So, what else, Quincy, this week, I mean, we talked about the Fed, we talked about earnings already, I believe Apple's on Thursday, so that'll get a lot of attention. My family is going to be, you know, closely watching the Starbucks numbers to see how much help we provided there. Mm-Hmm. <affirmative> especially my daughter with her pink drinks. What else on this page, I mean, the job numbers are important given the concern with inflation. Anything people should be looking for there?


Quincy Krosby (24:32):


Well, we're going to pay attention to wages. We're going to be paying attention to how many new workers are coming in looking for jobs. Obviously, the more people that come in looking for jobs, it helps the Fed regarding their concerns about wages because the larger the pool of potential workers it helps ease the pressure on having to raise wages. So that would be very helpful. But I think above all else, it'll be how many new jobs. We know that if the number of new jobs created comes down materially, we're getting to that point then that the market says, okay, we're moving towards a recession because usually a recession is there when there are no new jobs and if you're getting close to it, so we'll watch to see if we have upside surprises or does that number start to indicate that there is trouble in the labor market. So, number of hours worked is very important. And also, the overall work week, that's important as well. And where are the jobs coming from? Are they just the service sector, hospitality? Are we seeing more professional related jobs in construction, that has been a leader. All of this is important. And also manufacturing, because we've just talked about the issue with manufacturing. I think this week actually, we're going to also have factory orders in the data releases.


Jeffrey Buchbinder (26:09):


Yeah. It's a huge week.


Quincy Krosby (26:11):


Oh my goodness. Oh,


Jeffrey Buchbinder (26:13):


Huge week. Well, we didn't even mention the ECB, right. And we'll probably get a rate hike out of them. I would expect 25 basis points, not 50, but there are certainly some in the 50 camp. Oh yeah. You know, you add all this economic data, this important economic data, you know, payrolls consensus is 180. That may be isn't too exciting, but if it, of course, if the number is far off from that in either direction, yeah, it will get attention and it will move the market, especially the bond market. No doubt. But we get 160 something companies, S&P companies reporting this week. It's not just, you know, just because Microsoft and, you know, Alphabet and Meta are done and the banks are done doesn't mean that there's not more earnings reports. because wow, it's going to be dizzying how many reports we get this week.


Jeffrey Buchbinder (27:04):


So that, that is a lot to digest. And I think if we continue to hold near this, you know, 4,200 level on S&P 500, you would have to view that as positively. Mm-Hmm. <Affirmative> certainly. But any number of these big events could certainly move us in either direction. We're still on the LPL Research Asset Allocation Committee, slightly overweight equities. But we are certainly watching all of these numbers very, very closely. And you know, as we get closer to our year-end target, certainly, we're going to have discussions about maybe pulling back a bit. The last thing we didn't talk about this, I want to preview the Weekly Market Commentary for everybody. I didn't put it in this deck, but "sell in May go away" starts a lot of attention in the press about that.


Jeffrey Buchbinder (27:55):


So you can go to lpl.com and see our "sell in May and go away" commentary. We've probably done this every year. Gosh. I mean, this might go back even like 15 years <laugh> in this department. Yeah. LPL Research writing about "sell in May and go away". Most important point I want to make there, actually two points, on average, stocks are up during this six-month period, May through October, even though it's historically the weakest six months. Right. That's one. And two, the "sell in May" adage hasn't worked over the past decade. We've actually had nine out of 11 of these periods. The last nine out of 11 have been higher for the S&P 500. Average gain about four and a half percent. And you know, there you have a what about an 80% beat rate? So, you know, the message here is don't just sell because of that pattern.


Jeffrey Buchbinder (28:55):


Actually, you know, the data says, you know, maybe be a little bit cautious because you can get four, 5% in bonds. But, you know, don't get too cautious here because you know, history would tell you that, you know, stocks are pretty likely to move higher here over the next six months. And if we can get a couple of percentage points in the next few months and then finish the year with a nice little rally, we think we can still get to our 4,300 to 4,400 target in the S&P 500 by year end. So, still optimistic, but being a little bit careful as stocks have moved higher, I think we're 16% off the October lows mm-hmm. <Affirmative>. Yeah. So, you know, that that's a pretty big move. And if you look at the chart, even though we had, as you saw earlier, even though we've had a series of higher lows, we're still kind of at the top of this range. And it's possible we're still in a range-bound market. And it takes some time to break through that 4,200 and make a run at 4,300. So, "sell in May and go away" commentary on lpl.com. Anything else to add to any of that, Quincy, before we wrap up?


Quincy Krosby (30:07):


I would just say keep your eye on gold. Gold. Sure. Watch it. Watch it. Because gold, gold will always sniff out whether or not inflation is too sticky. Gold will flourish in that environment. So, I'm keeping my eye on it.


Jeffrey Buchbinder (30:29):


Yes. If this environment is more of like a stagflation, we don't think it is, but if it is, gold would probably be, or gold related investments would probably work in that environment. So that's a good point. Likes the falling dollar, likes interest rates down mm-hmm. <Affirmative>, precious metal related investments tend to like banking crises, <laugh>. Right. We're not really in a banking crisis per se but certainly we may have some more ripples Yeah. From the Silicon Valley, First Republic Bank quake if you will. So, good point on that. With that, let's wrap it up for this week. Thanks, Quincy, for jumping in, filling in for Jeffrey Roach. We'll try to get him back next week. If not, you'll probably hear from Lawrence or from Adam again. As always thanks for joining us for LPL Market Signals. We'll be back with you next week. See you then.


Quincy Krosby (31:27):


Thanks soon. Thank you so much. Thanks everybody. Thank you.

Earnings Estimates Rise…Wait, What?

In the latest LPL Market Signals podcast, Chief Equity Strategist Jeffrey Buchbinder and Chief Global Strategist Quincy Krosby discuss the surprising resilience of corporate earnings, preview this week’s Federal Reserve (Fed) policy meeting, and highlight the busy week of key economic data, including monthly payroll employment.

Stocks rose last week in response to solid earnings results despite the failure of First Republic Bank. Mega-cap technology results were particularly strong relative to expectations, consistent with the “better the feared” narrative that has accurately characterized the past two earnings seasons.

While widespread upside surprises have been well received by markets—halving the expected drop in profits for the first quarter from down 6% to down about 3%—the strategists note that last week’s increase in S&P 500 Index earnings estimates for the next four quarters was the big pleasant surprise.

The strategists also preview this week’s Fed policy meeting. While a rate hike on Wednesday is almost assured, the message we’ll get from Fed Chair Jay Powell is unclear. This week’s hike will likely be the last, but Powell’s comments will likely leave the door open and highlight data dependency.

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