The earnings recession is about to begin

The first quarter earnings season will pick up this week with several major banks reporting results on Friday.

And as this earnings period largely ends by Memorial Day, analysts expect a clear takeaway to emerge — corporate America is in an earnings recession.

After earnings per share for S&P 500 companies fell 4.6% in the fourth quarter of 2022, earnings are expected to fall 6.8% from a year earlier in the first quarter of 2023, according to data from FactSet.

“Analysts and companies have been more pessimistic in their earnings outlook for the first quarter compared to historical averages,”[ads1]; FactSet’s John Butters wrote in a note.

“As a result, estimated earnings for the S&P 500 for the first quarter are lower today compared to expectations at the start of the quarter. The index is now expected to report its largest year-over-year decline in earnings since Q2 2020.”

With two straight quarters of year-over-year revenue declines, this is pushing the profits of the market’s largest companies into recession.

By definition, investor debate about what is “priced in” to the market can never be settled. After all, that’s what this market is for.

Whether this earnings recession confirms the obvious or serves as new information is a question we’ll leave to investors to figure out. But the market’s behavior last year, which saw the S&P 500 endure its steepest drop since 2008, suggested investors were bracing for corporate results like those going through now and what could come in the quarters ahead.

During the first quarter, analysts cut expected growth per share by 6.2%; over the past decade, the average quarterly decline in earnings expectations is 3.3%.

The earnings recession is about to begin

Traders work on the floor of the New York Stock Exchange during morning trading on March 22, 2023 in New York City. (Photo by Michael M. Santiago/Getty Images)

And the news isn’t expected to get much better in the second quarter, with FactSet noting that expectations for Q2 are for earnings for the S&P 500 to fall another 4.6% from a year earlier. In the third quarter, earnings are expected to return to growth.

With recent data from the manufacturing sector, the service sector and the US labor market suggesting that a downturn in the economy is looming, this downturn in business does not come as a total surprise.

After all, investors have been fretting over an apparently imminent U.S. recession for most of the past year as rising inflation and aggressive interest rate hikes have set off indicators warning of a future slowdown in growth.

But some strategists don’t think the market is done pricing in a bleaker outlook for profits. And expect investors to eventually heed the warnings sent from corporate bottom lines.

“Investors could see through an earnings decline in 2023 to a strong recovery next year, largely in an effort to pay top multiples on rock-bottom earnings,” Barclays strategist Venu Krishna wrote in a note to clients on Monday.

– However, we are sure of that [next twelve months] EPS cuts are far from finished; consensus estimates look consistently too optimistic even a few months away, and a potential recession only increases the degree to which forward estimates overstate actual earnings.”

As FactSet’s work flagged, earnings estimates for first-quarter earnings have fallen sharply while full-year estimates remain relatively stable.

Investors still expect the S&P 500 to gain $219 per share in 2023; Barclays expects earnings for the full year to come in closer to $200 per share.

The profit forecasts for the first quarter of this year have fallen sharply, while expectations for the balance sheet in 2023 have remained firm.  Barclays strategists expect this to change in the coming months.  (Source: Barclays)

The profit forecasts for the first quarter of this year have fallen sharply, while expectations for the balance sheet in 2023 have remained firm. Barclays strategists expect this to change in the coming months. (Source: Barclays)

“Ultimately, we believe the market is still pricing in a ‘no landing’ scenario: one in which the Fed brings inflation under control (perhaps at a level slightly above the 2% target) while economic growth runs past a recession and finally recover strongly. in 2024,” the firm wrote.

“This is the result that best supports the current consensus, and we just don’t see it. Our premise continues to be that a shallow recession will occur this year, and if the history of recessionary bear markets (particularly high inflation markets) is any guide, both sides of the P /E multiple exposed to asymmetric downside risks.”

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