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Q3 Earnings Season Update, Part 2

| November 06, 2017

With over 400 (81%) of the S&P 500 companies having now reported and the third quarter earnings season mostly in the books, we wanted to take a few moments, admittedly with heavy hearts after the horrific events in Manhattan and Texas over the past week, to provide an update on how things are progressing thus far. The good news for the markets is found in impressively strong revenue growth and favorable upward revisions in earnings estimates.
According to FactSet, 74% of the S&P 500 companies are reporting actual EPS (earnings per share) above estimates, which is comfortably above the five-year average. Additionally, companies are reporting earnings that are 4.8% above the estimates, also surpassing the five-year average. The same is true of sales, where more companies (66%) are reporting actual sales above estimates compared to the five-year average. In total, companies are reporting sales that are 1.2% above estimates, which is also above the five-year average.
The blended growth rate looks at combined actual results for companies that have already reported and estimated results for companies that have yet to report. This gives us a reasonable expectation for how the quarter will actually play out when all the numbers are in. With that in mind, the quarter is expected to finish up with an earnings growth rate of 5.9% as of today, which is higher than the expected earnings growth rate of 4.4% last week. The culprits, in the best sense, are the six sectors reporting earnings growth, led by the Energy, Information Technology, and Materials.
As we mentioned in our most recent 3Q earnings update, for full-year 2017, total earnings for the S&P 500 index are expected to be up +7.1% on +4.7% 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, barring an exogenous shock of some sort.
A final note of caution regarding valuation for the largest domestic companies is in order. The forward 12-month P/E ratio for the S&P 500 is 18x, which is above both the five-year and the ten-year average, as illustrated in the graph below. For this reason, MPCA portfolios include a healthy dose of international exposure, where historical valuations are more reasonable and risk/reward expectations are more favorable, in our mind. We will have more to say about that in future commentary.