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Stocks May Get Their First True Test This Earnings Season

By Michael KramerStock MarketsOct 22, 2021 06:25AM ET
www.investing.com/analysis/will-slowing-economic-growth-take-earnings-with-it-200605961
Stocks May Get Their First True Test This Earnings Season
By Michael Kramer   |  Oct 22, 2021 06:25AM ET
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This article was written exclusively for Investing.com.

Volatility in the stock market seems to have picked up since the beginning of September, with the S&P 500 falling by nearly 6% and then racing higher.

Earnings could have a pretty significant role in where the market goes from here, with investors needing as many clues from companies and their guidance they can get their hands on. 

Heading into this round of quarterly results, earnings estimates for the S&P 500 had essentially stalled, and the uncertainty around future earnings seemed to be climbing. It wasn't only earnings estimates which have struggled; sales estimates have also shown signs of weakness. One could understand that higher costs could negatively impact earnings, but sales estimates suggested perhaps something more. 

The US economy appears to have taken a significant hit in the third quarter. It was forecast to grow by nearly 7% at one point. However, the latest Atlanta Fed GDPNow models suggest the third quarter may only increase by 0.5%. The slowing economic growth could undoubtedly have had a big say in why earnings and sales estimates stalled at the beginning of September. 

Earnings Estimates Have Been Falling

But more recently, those earnings estimates for 2021 and 2022 have taken a dip falling to $197.67 and $216.01, respectively. They have recovered some since the start of earnings season, but for them to rise back to their old highs and higher, guidance from companies will be even more critical. 

Sales Estimates Slip

More surprising is that sales estimates have been on a steady path lower for 2021 and have been flat for 2022. Therefore, for earnings estimates to begin to rise again steadily, the sales outlook will need to turn around, or there will be a need for further margin expansion. However, it seems difficult to think that margins will expand in a meaningful way when input costs are rising. 

Rising Earnings Uncertainty

This mix of slower GDP growth, stalling earnings, and falling sales increase uncertainty about future earnings estimates when looking at their standard deviation. The standard deviation has risen to around 13.2% from the Feb. 24 low. A sign that analysts see several different outcomes for the direction of where earnings may be heading.

For all these factors to begin to move in a favorable way, which will help the market to keep rising, there will need to be positive guidance to lift consensus estimates. The PE ratio for the S&P 500 has increased back to 21.1 times its next-twelve-month earnings estimates, which is its highest level since early September, and an indication that investors are betting on earnings estimates rising in the future. 

If sales and earnings fail to provide a narrative that supports higher stock prices, the recent rebound witnessed off the October lows may prove harder and harder to maintain. It will force the PE ratio back down to those lower levels and potentially start a process of further PE contraction. Overall the PE ratio of the S&P 500 is historically high, and given weakening earnings and growth rate, it will be hard to maintain. 

This earnings season may be the stock market's first actual test. 

Stocks May Get Their First True Test This Earnings Season
 

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Stocks May Get Their First True Test This Earnings Season

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Comments (9)
Jesus Iglesias
Jesus Iglesias Oct 29, 2021 9:07PM ET
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I'm reading more mistakes, M. K. Sorry, do you like red color?
Mohd Izhar Muslim
Mohd Izhar Muslim Oct 23, 2021 12:12AM ET
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That great once
Barry Snow
Barry Snow Oct 22, 2021 1:49PM ET
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Thanks, needed to hear that
Jim Hernandez
Jim Hernandez Oct 22, 2021 12:05PM ET
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Thanks for the dark picture you painted. you seem to be one of those who are looking for a reason for the market to fall, then say "I called that one". There will always be market influences to direct sector performance. Like football, you find the hole (sector or technical where the performance is) and you run with it. Bulls are still in charge.
Mahmut Can
Mahmut Can Oct 22, 2021 11:14AM ET
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writer/editor fail. best ever trading advice never take stock advice from anyone who types their as 'there' (ps. now corrected)
Franco Dominguez
Franco Dominguez Oct 22, 2021 9:14AM ET
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excellent article, nothing is forever even the trolls said that would be forever
Fungus Amongus FA
Fungus Amongus FA Oct 22, 2021 8:50AM ET
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its safer to write an article than investing or trading , this guy has absolutely no idea what he is talking about .. bullish or bearish .
sai rud
sai rud Oct 22, 2021 8:50AM ET
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hello Fungus, i am missing you on futures board.  need your help. how to reach you
Bill Smith
Bill Smith Oct 22, 2021 8:50AM ET
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@Fungus, Please come back , we are missing you!!!
Adam Barnard
Adam Barnard Oct 22, 2021 8:50AM ET
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atleast post some levels, we missing you. I only lose money when you are not around!!!
Dr Midnight
Dr_Midnight Oct 22, 2021 8:50AM ET
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Hey Fungus, we miss your witty banter on the board! :) Hope you are out buying an expensive car.
Pumpy Dumpy
PumpyDumpy Oct 22, 2021 8:50AM ET
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What they said! :-)
chris duggan
chris duggan Oct 22, 2021 7:29AM ET
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"there first test". May want to check your spelling on that one
Gershom Zvi
Gershom Zvi Oct 22, 2021 6:43AM ET
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What is a stock for shortselling much secure and profitable?
Loudermilktits Loudermilktits
Loudermilktits Oct 22, 2021 6:43AM ET
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Lol you can't be serious
 
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