S&P 500 Earnings: V-Shaped Recovery

On the health front of the world war against the virus (WWV), the third wave of the pandemic, which started around Halloween, has been the worst by far (Fig. 1). However, it crested on January 15, when the 10-day moving average of hospitalizations peaked at 232,583. This series was down 56% to 101,407 on February 15. That’s encouraging. Hopefully, there won’t be another wave related to the Super Bowl. Meanwhile, the pace of vaccinations is picking up, which should change COVID-19 from a plague to a pest.

Notwithstanding the severity of the third wave of the pandemic during the fourth quarter of last year and early this year, a great deal of progress has been made on the economic front of WWV. The US continues to trace out a V-shaped recovery. The same can be said about the global economy. That’s showing up in the V-shaped recovery in S&P 500 earnings. So the V-shaped rebound in the S&P 500 stock price index has been justified by the rebound in earnings. The index hasn’t been disconnected from the economy as widely believed.

Of course, the remarkable progress made on the financial front of WWV in both the stock and credit markets has been largely driven by the unprecedented stimulus provided by fiscal and monetary policies around the world. Credit-quality yield spreads have narrowed, and corporate and municipal bond yields have dropped to pre-pandemic readings. The financial system and global economy are awash in liquidity, resulting in elevated valuation multiples.

Let’s review the V-shaped recovery in S&P 500 revenues, earnings, and profit margins:

(1) Q4 earnings season. Let’s start with the Q4 reporting season. So far, 369 of the S&P 500 companies have reported. During the week of February 11, S&P 500 earnings for the quarter came in at $42.26 per share using the blend of actual and estimated earnings (Fig. 2). That’s up 14.6% from the estimate during the week of December 31, just prior to the latest season. Remarkably, the latest blended earnings number for Q4 is up 0.6% y/y! That follows the following declines during the previous three quarters: Q1 (-15.4%), Q2 (-32.3), and Q3 (-8.2) (Fig. 3).

That certainly was a V-shaped recovery in the quarterly earnings-per-share numbers last year, although 2020’s total was down 14% to $140 per share from $163 in 2019. We are predicting $175 for this year, which would be a 25% rebound from last year’s total.

(2) Forward revenues and earnings. Also showing V-shaped recovery formations are S&P 500’s forward revenues and forward earnings, i.e., the time-weighted average of consensus estimates for this year and next year (Fig. 4). Both certainly stand out as V-shaped compared to their U-shaped recoveries during the Great Financial Crisis.[1]

Forward revenues per share is a great weekly coincident indicator of actual S&P 500 revenues per share (Fig. 5). During the week of February 4, the former was only 0.5% below its record high during the week of March 5.

Forward earnings per share is a great weekly year-ahead leading indicator of actual S&P 500 operating earnings on a four-quarter trailing basis (Fig. 6 and Fig. 7). Admittedly, it doesn’t see recessions coming, but it works very well during economic recoveries and expansions. It was $176.78 during the week of February 11, only 1.2% below its record high during the week of January 30, 2020. That latest number is about the same as our forecast for the year.

(3) Profit margin. Apparently, companies scrambled to cut their costs when the pandemic hit only to find that their sales recovered sooner than expected. That explains why the S&P 500 forward profit margin plunged from 12.0% at the start of 2020 to 10.3% during the week of May 28 and rebounded back to 11.9% during the week of February 4 (Fig. 8). Here are the latest analysts’ consensus profit margin estimates for 2020 (10.2%), 2021 (11.7%), and 2022 (12.7%) (Fig. 9).