Whose Stocks Will Climb And Whose Will Slide This Earnings Season?

Whose Stocks Will Climb And Whose Will Slide This Earnings Season?
Carl Hazeley

about 2 years ago4 mins

  • S&P 500 companies are expected to report fourth-quarter profits 22% higher than the same time in 2020, driving more than 40% annual profit growth.

  • Energy, industrials, and materials firms will deliver the highest profit growth, while consumer discretionary, financials, and utilities will post the lowest.

  • There are opportunities in both the high and low-growth stocks this quarter, as future growth forecasts will determine whether stocks rise or fall.

S&P 500 companies are expected to report fourth-quarter profits 22% higher than the same time in 2020, driving more than 40% annual profit growth.

Energy, industrials, and materials firms will deliver the highest profit growth, while consumer discretionary, financials, and utilities will post the lowest.

There are opportunities in both the high and low-growth stocks this quarter, as future growth forecasts will determine whether stocks rise or fall.

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Companies are getting ready to reveal how they performed both in the final quarter of 2021 and the year as a whole, kicking off this week with the big US banks. So here’s how to play the opportunities you want to land on, as well as avoid the traps you don’t.

What should you expect from this earnings season?

Analysts increased their earnings expectations for S&P 500 companies over the course of the fourth quarter of last year: they’re now expecting US companies to report fourth-quarter profits that are on average 22% higher than the same time in 2020, driving more than 40% annual earnings growth.

Companies in three sectors should be the stars of the show: energy firms are expected to swing into profitability after making an aggregate loss in the fourth quarter of 2020, industrials are expected to see their fourth-quarter earnings double versus a year prior, and materials companies’ profits are forecast to grow more than 60%.

Growth in every other sector is likely to come in below the S&P 500’s average, but bottom of the pile are financials and utilities companies, whose profits are expected to decline in the fourth quarter.

Q4 earnings growth by sector

What’s the opportunity here?

Energy stocks have been the S&P 500’s best-performing since the fourth quarter of 2021, having climbed 16%. It’s also the US sector that’s had the biggest increase in earnings estimates in the last few months. The main contributors to those increases have been oil giants Exxon and Chevron, which could make them attractive buys ahead of their earnings releases. To play the entire US energy market via exchange-traded funds (ETFs), you could buy the Energy Select Sector SPDR Fund (ticker: XLE, expense ratio: 0.12%).

By the same token, consumer discretionary stocks – those of companies that sell wares that people want but don’t need – look, on the face of it, like ones to avoid: they’ve risen some 12% since the fourth quarter, but they’ve also seen the largest decrease in earnings estimates. Growth expectations have collapsed from 20% to 1.5%, with Amazon the biggest driver of this drop.

Still, it’s tough to bet against the ecommerce giant and its peers right now. They generally underpromise and overdeliver when it comes to earnings, and it’s that underpromise that investors typically reflect in stock prices. But what’ll ultimately drive stocks’ performance when companies announce their results is the implication of those results – as well as of any earnings forecasts – on their future cash flows. So, simplistically, if a company does better than expected this quarter, or hints that, say, next quarter will be stronger than expected, its price should rise. If the opposite happens, its price should fall.

That might make now a good time to buy Amazon’s shares, along with other consumer discretionary stocks with low growth expectations via the Consumer Discretionary Select Sector SPDR Fund (XLY, 0.12%).

You could also make a similar bet on the US stock market as a whole – by buying a straightforward exchange-traded fund tracking the S&P 500, like the Fidelity 500 Index Fund (FXIAX, 0.015%) – and benefit if the balance of companies that perform better than expected outweigh those that disappoint.

A word of warning for 2022…

This earnings season, companies will set out their profit expectations for 2022. At the moment, analysts are estimating that the S&P 500 earnings per share (EPS) – calculated by aggregating the median 2022 EPS for every company in the index – is $222.32. That’s the highest annual figure ever.

S&P 500 earnings per share

Over the past 25 years, however, the average difference between the EPS estimate at the start of the year and the eventual figure has been 7.2%. In other words, analysts have on average overestimated the final EPS figure by 7%.

If that pattern holds, you might find at various points in the year – particularly in earnings seasons – that a company’s stock price outstrips the value of its future earnings (remember, a stock’s value today reflects the average value assigned by investors to all a company’s future cash flows in the future). So if you notice its price-to-earnings ratios at eye-watering highs, it might make sense to trim the most expensive of your positions and lock in profits in case of a short-term “correction” in prices.

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Disclaimer: These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment advisor.

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