A more optimistic outlook boosted stocks to start the week, but the market upheaval since the beginning of the year has left some carnage. While U.S. and global equities have been bouncing higher and trimming year-to-date declines, jittery Wall Street analysts have slashed their full-year S&P 500 earnings per share (EPS) estimates for 2016 in the wake of recent volatile market action. There’s an old market saying that “price leads fundamentals,” but in this case, prices may be influencing fundamental estimates.
Economic and Earnings Growth Slows
The yellow light is flashing. Probably not a recession, but a slowdown? Yeah. S&P Economics pegs the odds of recession below 20%, but now forecasts 2.4% growth for the U.S. economy, down from earlier estimates of 2.7%. Along with the downgraded economic outlook, S&P 500 EPS growth estimates for this year have fallen from 7.4% at the start of the year to 2.8%, according to data from S&P Global Market Intelligence.
At the beginning of the year, 9 of the 10 S&P 500 sectors were expected to post earnings growth. At the low end, earnings in the telecom sector were expected to grow by 1.4%. At the high end, earnings for basic materials were expected to grow by 15.9%, says Sam Stovall, managing director at S&P Global Market Intelligence. "Only a month and a half into the year, things have been reduced dramatically. Still, 9 out of 10 sectors are expected to post increases, but now we expect only a 0.4% rise in basic materials, a near 180-degree shift."
Pointing to the downgraded earnings outlook, JJ Kinahan, chief strategist at TD Ameritrade, says: "It's no big surprise. We've had a rough beginning to the year."
Kinahan highlighted a number of factors driving the uncertainty for both investors and Wall Street, including:
- A slowing global growth environment.
- Hesitation on the part of U.S. consumers to spend their gasoline windfall.
- The reluctance for fresh business investment during the election cycle. "People start to slow down because they are not sure what regulations the next administration and Congress will bring," Kinahan explains.
Aging and Agitated Bull
For investors and traders trying to make sense of market volatility and fundamental estimates, Stovall points to the current bull market's upcoming seventh birthday in March. "Historically, bull markets only last about four and a half years," Stovall says. "Volatility has picked up as the tug of war between the bulls and the bears intensifies. This is traditionally a sign of an aging bull market and an aging bull expansion."
Take comfort in the idea that economic expansions and bull markets don't simply die of old age, Stovall says. There have been bull cycles lasting eight and nine years. Nevertheless, it’s a reminder that "investors should not get carried away with the surge in stock prices over the last week, but at the same time, it doesn't mean they shouldn't sell everything."
Strategy Moves Amid Increasing Uncertainty
Long-term investors have to ignore the noise, says Kinahan. "There is a lot of it. After all, the news shows have to fill 24 hours of programming." Recent volatility has created a trader's market, he adds. As the landscape is changing, Kinahan notes some are "trading perhaps smaller position size than they normally would."
Another step investors and traders can take is tracking earnings estimates. One way to keep an eye on changing earnings estimates is with the earnings tool at tdameritrade.com (see figure 1). Traders and investors can use this tool to track quarterly earnings history over the last four quarters along with earnings estimates.