It is often said that earnings drive long-term stock market returns. This is why investors pay such close attention to corporate earnings announcements. The ongoing economic uncertainty, high inflation, slower growth, and banking crisis make it even more vital to focus on earnings trends (rather than getting caught up in the daily noise of the stock market and news headlines).
Let’s delve into some key points to help you understand the current earnings seasons:
1. Positive Economic Trends Are In Play: Contrary to earlier expectations of a recession, broad economic trends have been positive. Unemployment rates remain low, and inflation is showing signs of improvement. This has resulted in an 8.2% year-to-date total return for the S&P 500 and a 5.5% gain for a hypothetical 60/40 stock/bond portfolio.
2. Earnings Growth and Economic Projections: As suggested above, earnings growth is crucial for stock returns as it reflects a company’s profitability. The long-term trajectory of the stock market typically follows the path of earnings. For 2023, the economy and S&P 500 earnings are expected to remain flat, but a 12% rebound is projected for 2024. Factors such as inflation and potential Fed rate hikes will influence these projections. Notably, seven out of the eleven S&P 500 sectors are expected to experience earnings growth, including Information Technology, Communication Services, and Consumer Discretionary. The Financials sector is also projected to grow despite recent banking turmoil.
3. Valuation Metrics: Flat growth in 2023 presents challenges when it comes to valuing the stock market. Slower earnings growth can make the market appear more expensive using certain valuation metrics that consider earnings, sales, or cash flow in the denominator. However, if the economy and earnings rebound as expected in the coming years, valuation levels should gradually normalize.
4. Long-term Perspective: It is crucial for you to maintain a long-term outlook on valuations and portfolios. Overreacting to short-term news (such as the debt ceiling drama) can hinder your progress. Remember that aggregate earnings figures hold more importance for your long-term investments than individual company results.
Considering the overall market scenario, the flat growth this year complicates the task of valuing the stock market. Slower earnings growth can make the market seem more expensive, particularly when stock prices have already recovered.
However, if the economy and earnings rebound as anticipated in the coming year, valuation levels should slowly normalize. It’s crucial for you to remain positive and maintain a longer-term perspective on valuations and your portfolio. Earnings can be volatile from quarter to quarter, especially in challenging economic environments.
While it’s natural to focus on individual company results, the aggregate figures are far more significant for the vast majority of long-term investors. By following these trends and focusing on longer-term assessments, you can avoid overreacting to short-term news and make more informed decisions.
Remember, staying informed and understanding the broader economic and earnings trends will help you navigate the current market environment with confidence. As your advisor, I am here to guide you and provide you with the necessary insights to make sound financial decisions.
As always, please reach out with any questions.