Hurdling a Low Bar

HIGHLIGHTS:

• Stocks rose in early trading today after key officials announced that a debt ceiling deal may be reached by this weekend.
• While politicians are fumbling, corporations are vaulting over low earnings expectations.
• Despite earnings shrinking by 3.3 percent, companies are outperforming estimates by their widest margins since 2021.
• · Wall Street analysts predict another poor quarter next season, but earnings growth is expected to turn positive in the second half of the year.

The Republican-led House and the Biden Administration remain in a months-long standoff over the debt ceiling as the supposed June 1 deadline fast approaches. Financial markets have keyed into officials’ announcements as the threat of a US government default looms. The current impasse revolves around Congressional policymakers seeking federal government budget cuts; however, both sides claim they will ensure the US can pay its debts, avoiding a default. Stocks rose in morning trading today on optimism stemming from both President Joe Biden and House leader Kevin McCarthy saying they aim to reach an agreement by Sunday.

If politicians seem to have a low bar to clear before them, then corporate earnings are showing a feat of similarly mediocre athleticism by vaulting over a low bar of their own. After Wall Street analysts set the expectation for a 6.7 percent decline in first-quarter earnings, corporations have been expectedly, and fairly typically, outperforming those forecasts. So far, 461 companies of the S&P 500 have reported, revealing earnings shrank by 3.3 percent during the first quarter—a second consecutive decline. However, this might be their best performance since the fourth quarter of 2021 on a relative basis. Currently, 77 percent of reporting companies have beaten analyst estimates compared to the 10-year average of 73 percent. Those surprises beat estimates by 6.5 percent on average—just above the 10-year average. If the trend continues, earnings growth could improve to a smaller loss of 2.5 percent.

While corporations have outperformed expectations, it has been at a lower rate than in recent years, which could be signaling inflation, higher rates, and other factors are still creating rising headwinds for profitability. Wall Street is predicting corporations’ profits will continue to fall, with an earnings growth rate of -6.3 percent in the second quarter. Again, in reality, companies tend to outperform those estimates, but we may eventually reach a point where that margin is slim to negative. Hopefully, that won’t be any time soon. Investors may still have some hope as analyst estimates turn positive in the back half of 2023, with earnings growing by 3.4 percent and 2.3 percent in the third and fourth quarters of the year.

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