The third-quarter earnings season is off to a good start, with most of the S&P 500 (SPX) companies that have reported so far (October 17) beating analysts’ expectations by a wide margin. That’s according to FactSet, which keeps a close tally of earnings reports of publicly traded companies.
“At this point in time, more S&P 500 companies are beating EPS estimates for the third quarter than average, and beating EPS estimates by a wider margin than average,” said John Butters, Vice President and Senior Earnings Analyst at FactSet. “Due to these positive surprises, the index is reporting higher earnings for the third quarter today relative to the end of last week and relative to the end of the quarter. The index is now reporting the third highest (year-over-year) growth in earnings since Q3 2010.”
Financial Sector an Exception?
Still, traders and investors should interpret the Q3 earnings reports released so far with caution. First, the majority of companies reporting so far have been in the financial sector, which by its nature hasn’t been affected by the supply chain bottlenecks.
Secondly, the sector has been facing plenty of tailwinds, like a lower rate of bad loan write-offs, which allowed financial institutions to release more reserves set aside for this purpose. Additionally, the sector has benefitted from a rising interest rate spread (the difference between long-term and short-term interest rates), a more robust demand for loans, and higher income from investments and merger deals (such as Goldman Sachs (GS)). Thus, there were strong earnings reports from Bank of America (BAC), Citicorp, JPMorgan Chase (JPM), and Goldman Sachs last week, which beat analyst estimates.
Bank earnings reports contrast sharply with reports released in previous weeks by package delivery companies like FedEx (FDX), and homebuilders like Lennar (LEN) and D.R. Horton (DHI), which cited supply chain bottlenecks and labor shortages for lackluster earnings guidance. Plus, they are likely to be joined by a host of companies in the industrial and technology sectors who have similar complaints. These are sectors that have been facing similar challenges in recent months.
High Expectations for Fourth Quarter
Still, according to FactSet’s analyst survey, things could get better in the fourth quarter, making 2021 stronger. “Analysts also expect earnings growth of more than 20% for the fourth quarter and earnings growth of more than 40% for the full year,” adds Butters. “These above-average growth rates are due to a combination of higher earnings for 2021 and an easier comparison to weaker earnings in 2020 due to the negative impact of COVID-19 on a number of industries.”
According to TipRanks’ Smart Score, the S&P 500 is a 7, or Neutral. The average upside potential of stocks in the S&P 500 is 13.30%.
At any rate, strong earnings could push the S&P500 higher by the end of the year, meaning another happy year for stockholders. Of course, that will occur only if the Fed’s tapering, which is to begin in Mid-November or Mid-December, doesn’t push long-term interest rates higher and spoil the mood on Wall Street. Higher interest rates diminish the value of future earnings. Thus, they turn investors away from equities.
Disclosure: At the time of publication, Panos Mourdoukoutas didn’t own any shares of the companies mentioned.
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