This Is What a Stock-Market Earnings Slowdown Looks Like. Things Could Take a Turn for the Worse.

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Stop me if you’ve heard this one before: Company beats profit and sales estimates, stock falls. That’s become all too typical for many stocks in January as companies report fourth-quarter results—and it doesn’t look set to change this earnings season. Fear not. All is not lost for stocks in 2022.

It’s been a rocky, painful time for investors hoping that earnings could drive stocks higher. Even the rallies are stomach-churning. The

S&P 500
rose 0.8% this past week after a late Friday rally that sent the index up 3.2% from its daily low. The

Dow Jones Industrial Average
rose 1.3% for the week, and the

Nasdaq Composite
was flat.

The Federal Reserve got much of the blame, but earnings didn’t help. This past Tuesday,

General Electric

(ticker: GE) reported better-than-expected fourth-quarter numbers, but dropped 6% in response. The next day,

Tesla

(TSLA) reported better-than-expected results, too, and its shares were hammered, falling 12%. (More on Tesla here.)

The broader data paint the same picture. By Friday, almost 170 companies in the S&P 500 had reported quarterly numbers. Some 77% have beaten analyst earnings estimates, while 68% have topped sales forecasts. That hasn’t been good enough. So far this earnings season, the average stock price move is down 1.2% in response to earnings. In the third quarter, the average reaction to earnings was up 0.1%.

The number of companies beating Wall Street estimates isn’t the problem. Brian Rauscher, Fundstrat’s head of global portfolio strategy, calls the fourth-quarter performance data normal. The problem, he points out, is the magnitude of the earnings “beat.”

So far, fourth-quarter earnings have come in about 5% better than expected. Not bad, but earnings for S&P companies came in about 9% better than expected in the third quarter of 2021, about 17% better in the second quarter, and about 21% better in the first quarter of last year. The trend is down.

The magnitude of earnings beats is, admittedly, more important for traders than investors. Earnings growth, however, shows the same pattern. So far for the fourth quarter, earnings have grown by about 30% year over year, down from 39% during the third quarter and up 50% during the first quarter. Second-quarter 2021 earnings were up a ridiculous 100%. What’s more, for the first quarter of 2022, earnings for S&P 500 companies are expected to grow by an average of just 6%.

Earnings estimates are also falling because of weaker-than-hoped-for guidance. That puts pressure on coming earnings growth, too. Estimates for GE’s first-quarter earnings went to 43 cents a share from 57 cents a share after the company gave guidance RBC analyst Deane Dray called “noisy.” First-quarter earnings estimates for the entire S&P 500 have dipped by about 1% over the past few days, as earnings reports roll in. Earnings-growth deceleration is a big problem for the stock market. In fact, it’s probably a bigger problem than even inflation.

Of course, inflation might be the cause of decelerating earnings growth and hazy 2022 outlooks. Still, Rauscher isn’t worried about inflation derailing the entire year for stocks. He’s in the transitory inflation camp. “I’m not reading the Jolts data the way [Fed Chairman] Powell has communicated it,” he says.

Jolts is short for the Bureau of Labor Statistics’ “job openings and labor turnover survey.” It’s become a popular report because the number is sky high, up 57% year over year in November, indicating that the labor market is tight. High Jolts is something the Fed has cited as a reason for raising interest rates to combat inflation. Rauscher, however, points out that Covid skews everything. Vaccine mandates, along with associated firings for not getting vaccinated and Omicron-related absenteeism, all combine to skew Jolts data.

Things can get better from here. For companies, that means lower costs related to turnover and training. Lower costs will eventually turn into better earnings growth. Things, however, won’t get better immediately, which is why Rauscher expects a bumpy first quarter for stocks. “If someone is super-aggressive…and has the ability to do some hedging or some tactical [trading], go for it,” he adds.

But that’s a risky strategy. For less-aggressive investors, he suggests making a list of their favorite highest-quality stocks and thinking about a price they would have to hit to add them to a portfolio.

That way, at least you can realize some gain from all this pain.

Write to Al Root at [email protected]