Companies Are Warning About Profit Growth, But Investors Don’t Seem To Be Listening

Companies Are Warning About Profit Growth, But Investors Don’t Seem To Be Listening
Stéphane Renevier, CFA

over 1 year ago1 min

Mentioned in story

Company profit growth expectations and the stock market’s performance tend to go hand in hand. You can see that dynamic playing out in the chart above: the pink bars show the percentage of S&P 500 companies that revised their profit growth estimates upwards in the previous three months (known as the “earnings estimate breadth”), while the black line tracks the S&P 500’s performance. Both follow the same trend, for the most part.

That makes sense: companies that are amping up expectations tend to be feeling pretty confident about business conditions, which is usually when the overall stock market is also doing well. The opposite is true too: companies lowering their outlook is a negative sign for the wider market.

So it’s worth noting when they don’t follow the same trend, like the second half of last year: the earnings estimate breadth and the S&P’s performance diverged, suggesting investors weren’t paying attention to companies’ deteriorating profit outlook. It was only once they twigged later on that stock prices corrected again.

The same thing is happening today: the earnings estimate breadth has been falling since March and now sits at its lowest point since late 2020, with almost half of companies revising their profit estimates down in the previous three months. This, even as the S&P 500 is on the rise after recovering from the recent selloff.

That suggests a belated correction could be on the way as investors get wise to the discrepancy, just like in 2021. But we’re in an even trickier situation this time around, since profit estimates are a lot lower now than they were then. That matters: the lower the earnings estimate breadth, the worse profit growth tends to be. Put simply, brace yourself for more volatile times ahead.

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