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Q3 Earnings Season Update

| October 23, 2017

In the long-term, earnings are what tend to drive the markets – interrupted by the occasional “black swan” or geopolitical surprise. Given the importance of earnings, let’s take a deep dive into how things are shaping up as we stride into the heart of Q3 earnings seasons. In spite of banking results that have slightly underwhelmed, we are off to a good start to the third quarter earnings season. Notably, investors are cheered by accelerating revenue growth at this early stage of the game. A few quick highlights:

  • Total earnings for the S&P 500 members that have reported already are up +13.3% from the same period last year on +6.9% higher revenues, with 76.9% beating EPS estimates and 73.1% beating revenue estimates. Coming into the quarter, there were concerns that Q3 would not be able to keep up with the very strong growth pace and “earnings beats” from the second quarter season. So far, the reason for positive market action is that Q3 is keeping pace with Q2 on that score.
  • Importantly, the revenue side looks very strong, with the revenue growth pace accelerating and an above-average proportion of companies beating top-line estimates. Since earnings growth without revenue growth is ultimately unsustainable, markets tend to react badly when revenue growth disappoints. So far so good on that front.
  • Don’t expect the strong start to Q3 to continue. Analysts expect a Q3 pause in an otherwise strong year for earnings growth. Total Q3 earnings for the S&P 500 index are expected to be up +3% from the same period last year on +4.9% higher revenues. With double-digit growth in each of the first two quarters of the year and earnings growth in the last quarter of the year currently expected at +9.1%, the Q3 growth is on track to be the lowest this year.
  • For full-year 2017, total earnings for the S&P 500 index are expected to be up +7.1% on +4.6% higher revenues, which would follow +0.7% earnings growth on +2.2% higher revenues in 2016. Index earnings are expected to be up +11.8% in 2018 and +9.2% in 2019. If those estimates hold up, it is hard to foresee a major market correction any time soon.
  • The recently beleaguered small-cap space may be turning. Small-cap S&P 600 earnings growth is expected to turn positive in Q3, up +8.3% from the same period last year on +5.2% higher revenues. This would follow persistent earnings declines for the small-cap index in 3 of the last 4 quarters. MPCA currently has a position in the small-cap space in expectation of such a turn.

Since many of us “think in pictures,” two visuals from our friends at Zacks Investment Research may help the reader “see” what we are talking about. First, as mentioned previously, we are struck by strong momentum on the revenue side. To wit:

The second visual puts earnings flows into historical context. The recently completed June quarter (“2Q17” in the graph below) set a new all-time record for an S&P 500 quarter measured in total earnings dollars. Further, expectations are for coming quarters to blow 2Q17 away. We generally take analyst expectations with a hefty chunk of salt, but it would sure be nice if they turn out to be correct in their calls.

That’s a lot of numbers…and a lot of uses of the words “earnings.” Feel free to reach out to us with questions.