Signs are emerging that the first quarter earnings season will be more disappointing than expected, especially as it relates to to advance estimates and guidance, says Morgan Stanley.
“Width of Earnings Revisions for the S&P 500 (SP500) (NYSEARCH:SPY) has resumed its downtrend over the past 2 weeks and is once again approaching negative territory (which would mean more downgrades than upgrades for EPS out of the year),” Chief Equity Strategist Mike Wilson wrote in a note on Monday.
“This is largely due to declining reviews in the cyclical industries where we have been most negative: consumer (XLY), industrials (XLI), tech hardware (XLK), and semis (SOXX) (SMH),” Wilson said. “Negative revisions are often an indication that forward EPS estimates will flatten or even fall.”
With cost pressures, the risk of a recovery in consumer demand and the war between Russia and Ukraine, “a downward move in revisions should happen again in the 1Q reporting season,” he added.
“The difference this time is that we think the downtrend is likely to take the breadth of revisions completely negative and potentially into negative territory. While this is not a guarantee of an earnings per share collapse going forward, it is generally a sign where future earnings estimates go. to slow down or at least consolidate laterally”.
Inflation is now a drag on earnings
The positive effects of inflation on earnings have peaked and will now be a drag on growth, especially with an aggressive Fed, Wilson said.
The “downgrade has been more severe in expensive and/or economically sensitive areas of the market, while defensive areas have actually seen multiples expand,” he said. “This suggests the market is worried about higher rates and slower growth, even as the overall index remains expensive.”
That’s a classic late cycle, according to Wilson.
The forward P/E for the S&P 500 has fell 11% from November 15, 2021 to April 13.
Compared by sector:
- Energy (XLE) -7%
- Materials (XLB) -7%
- Industrial (XLI): capital goods -10%business and professional services -12%transport (IYT) -19%
- Consumer Discretionary (XLY): Cars and Components (CARZ) -18%consumer durables and clothing -29%customer service -38%retail (XRT) -18%
- Consumer Staples (XLP) – Food and Staple Retail +4%food, beverages and tobacco (PBJ) +10%home and personal products +2%
- Health (XLV): equipment and services HC 0%, pharma, biotechnology and life sciences -two%
- Finance (XLF): Banks (KBE) -17%diversified finance -5%insurance (IAK) +7%
- Tech (XLK): Semis and Semi Teams (SOXX) (SMH) -28%software and services (XSW) -twenty%hardware and technological equipment 0%
- Communication services (XLC): communication services -19%media and entertainment -23%telecommunications (IYZ) +8%
- Utilities (XLU) +12%
- Real Estate (XLRE) -4%
Goldman Sachs said there is now a 35% chance of a US recession in the next two years.