It’s earnings season and the main attraction of Wall Street’s Halloween spectacular is market performance. Especially after such a spooky and volatile year, investors care a lot about fundamentals this go around. So far, sentiment has felt buoyant as more than half of S&P 500 companies have reported and more than two-thirds have beat their estimates. But are these really beats? Or a trick, and not a treat?

There are a few tailwinds within markets right now that might be working in their favor.

One being seasonality. Historically, stocks tend to perform better in the last three months of the year. Following September’s tendency to be the worst month for stocks – we seem to be mimicking this pattern amusingly.

The second one is sentiment. Recently, the AAII US Investor Sentiment Survey has been brewing signs of pessimism for weeks on end, and at levels confluent with recessionary warnings.

The last one is estimate revisions. While not uncommon, because of tighter financial conditions, more companies had expected poorer performance in Q3. However, these companies performed better than anticipated leading to positive earnings surprises.

So, Trick? Or Treat?

Try and stick with me through the following number garble…

According to FactSet, 52% of S&P 500 companies reported as of last Friday the 28th. Of those companies, 71% reported Earnings Per Share (EPS) above estimates. This 71% figure is below the 5-year average (77%), and the 10-year average (73%).

Of those companies that have reported EPS above estimates, the magnitude of these beats is 2.2%. Meaning, the reported numbers are 2.2% above the estimated figures. This too is below the 5-year average (8.7%), and the 10-year average (6.5%).

If this trend persists through the last half of earnings season, it will mark the second-lowest surprise percentage in the past nine years.

Can you see the mixed signals?

That’s not to say these numbers are meaningless and these companies’ positive performances are negligible. But the market has been rewarding positive earnings surprises more than average and punishing negative earnings surprises less than average (per FactSet).

Don’t worry, I haven’t forgotten about revenues. 68% of S&P 500 companies have reported actual revenues above estimates. However, these too, are below the 5-year and 10-year averages.

To summarize, we know companies have been hit hard this year and that’s been reflected in their stock prices and earnings performance. While there are outliers on both ends for who have done better than most and worse than everyone, the recent positivity in the markets reflects investors eagerness to catch a break.

Despite what you may feel about certain companies and regardless of sentiment, markets tend to bottom before earnings experience their worst. We can look back to the Global Financial Crisis (GFC) and see that the S&P 500 began to behave oppositely to aggregate earnings. And this isn’t the only historical period to do so (Eisenhower, 70s, Tech Wreck, COVID, etc.). But leading indicators tend to do that. And well, earnings, tell us what has already passed.

If there is one thing now that market participants care more about than ever, it’s businesses with strong and stable earnings potential. And I mean companies that you can be sure will bring in money. It almost makes too much sense, but these are the side effects of complacent companies and lazy investors.

Kenneth Wolin
Portfolio Administrator

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