Tag Archive: earnings

Is the rebound in earnings estimate revisions peaking?

Our measures of aggregated earnings estimate revisions trends have shown some of their most dramatic movements on record this year, and now may be looking extended.

After reaching historically extreme negative readings in April/May amid the initial COVID-19 lockdowns, earnings estimate revisions activity has now lurched back up to extremely positive readings. Better-than-expected Q2 earnings reports and the effects of massive monetary and fiscal stimulus are now finally reflected in analyst earnings forecasts. However, with fiscal stimulus weakening (and little imminent sign of movement toward new stimulus) and no meaningful further scope for interest rate cuts, the “snap-back” in earnings estimate activity could soon drop off.

The first chart below shows our measure of aggregated analyst earnings estimate revision activity in the US, for our broad universe of over 2000 stocks (equally-weighted) on a longer-term time frame. The data are month-end values except for the latest data point.  The red line represents the “breadth” of estimate revisions, meaning the aggregate net proportion of positive versus negative revisions (changes) to forward 12-month earnings estimates over the prior three months (i.e., number of analysts who have raised earnings forecasts minus the number who have reduced forecasts, as a percentage of the total number of analysts for each stock, scale right). The blue bars represent the “magnitude” of the month-on-month changes in forward 12-month forecasts, i.e., the average percentage change in earnings forecasts from a month ago (scale left).

United States_AbsERS

We can see that the low point in April matched (or exceeded) the extremes seen in the 2008 Great Financial Crisis (GFC) period, which is not surprising given that the drop-off in economic activity this year was greater than in the GFC. However, the combined fiscal and monetary stimulus recently produced in response was also greater than any previous post-WWII period, and so revisions metrics have shown a faster and more extreme rebound than at any previous point in our data. Stock prices appear to have moved ahead of aggregate estimate revisions, raising the question of whether this apparent good news for earnings is already priced in.

Perhaps more concerning is the risk that revisions (i.e., analyst sentiment) have reached highly optimistic readings now and may already be starting to revert. The chart below is calculated identically to the one above, but plots the daily figures (rather than monthly) over the last three years. Here we can see that the blue bars are already coming down from their latest peak, suggesting that the upward momentum of earnings estimate revisions may be fading now that Q2 earnings reports are over. The breadth series (red line) is based on revisions over the last three months, so it encompasses a full calendar quarter and is thus more stable. If revisions breadth starts to turn down (as it did after the tax-cut surge in early 2018) alongside current elevated valuations for equities, then the recent signs of higher stock market volatility could persist into Q4.

United States_AbsERS_Daily

The S&P 500 is top-heavy, but so are fundamentals

There has been much discussion about the increasing concentration of the market cap weighted indices in the US, with the S&P 500 now showing some of the highest levels of concentration among the largest constituents in history. The top 20 S&P 500 stocks (4% of the constituents) currently comprise 38.6% of the index weight, while the top five companies alone make up 23.8% of the weight.

But what about the underlying fundamentals? Are they as concentrated as the capitalization weightings? Broadly speaking, the answer is yes.

Following are a chart and two tables based on the top 20 stocks in the S&P 500. The chart below shows the proportion of total estimated operating income and sales made up by the top 20 S&P 500 stocks each month over the last 15 years. The figures are based on consensus analyst forecasts for net income and sales for the current fiscal year (currently FY2020), rather than trailing reported financials.

Top 20 SP500 Earn Sales

The first message from the chart is that the top 20 stocks do in fact make up an increasing proportion of income and sales, but the proportion is not historically outlandish. The largest stocks have tended to produce 30-40% of total index earnings and 31-35% of total sales, and are near the upper end of those ranges now.

And possibly more surprising to some, the proportion of earnings expected to be generated this year by the top 20 stocks is very similar to the proportion of market cap they hold (39.1% of earnings as of the end of July, vs 38.5% of market cap). The proportion of sales from the top 20 is similar but slightly lower at 35%. So the most heavily weighted stocks in the index are in fact producing a comparable proportion of earnings and sales in aggregate (not for every stock of course). The S&P 500 has long been “top-heavy” to varying degrees due to the presence of a few dominant mega-cap stocks, but right now that broadly captures the similarly concentrated nature of the underlying fundamentals.

What are the top 20 stocks by earnings and sales? The tables below show the latest monthly lists. While some names naturally appear on both lists, there are some notable differences in the lists of earnings versus sales, as profitability varies significantly in some cases. Amazon.com, for instance, has the second largest sales but is not among the top 20 for earnings. The same is true for a number of other well-known names whose earnings are either depressed right now or whose profitability is structurally lower.

List of Top 20 SP500 Net Inc List of Top 20 SP500 Sales

And finally, for some interesting historical perspective, the tables below show the top 20 S&P 500 stocks by earnings and sales 10 years ago (as of July 2010). Notably, the range of estimated profits among the top 20 was narrower 10 years ago, and a number of the names have changed over the last decade.

List of Top 20 SP500 Net Inc 10 yrs Ago List of Top 20 SP500 Sales 10 yrs Ago

Earnings uncertainty still extremely high going into Q2 reporting season

July 10, 2020

As Q2 earnings season gets underway, the level of uncertainty about future earnings among analysts remains extremely high. Despite somewhat calmer equity market activity recently, our data shows that the level of disagreement among analysts regarding earnings over the next 12 months (NTM) is still well above the highest levels reached in the Great Financial Crisis (2008-09) period (chart below).

US Estimate Disperson

The chart plots monthly (and latest) readings for the average dispersion of analyst forecasts around the mean for US stocks (standard deviation of estimates as a percentage of the mean estimate for each stock, averaged across all stocks in our 2300-stock US universe*). A higher dispersion number indicates a wider range of estimates (more disagreement about the level of future earnings) for the average stock. The solid horizontal line is the long-run average, and the dashed lines are +/- 1 standard deviation from the average.

One reason for the extreme level of disagreement among analysts is that a record number of companies have withdrawn their usual earnings guidance in light of the uncertainty surrounding the impact of COVID-19 and related government responses.

And equity analysts, like many other workers, have also been forced to work from home and unable to travel to visit companies, attend conferences, and gather information as they normally would. So with less scope to do their own legwork and less input from company management, analysts have far less information to work with now than usual.

These limitations on information access, alongside the obvious difficulty of predicting economic activity and earnings in an unprecedented global health crisis, no doubt help explain why there is little confidence about forecasting future earnings. We might therefore expect to see a greater number of earnings surprises when companies release their results.

And while theory suggests that higher earnings uncertainty would normally prompt investors to reduce the valuations given to equities, that has not been the case recently as aggressive stimulus from central banks and government spending have in fact pushed equity valuations much higher.

*Note: our US universe includes stocks with at least three analysts covering them, a minimum $200 million market cap, and at least $2 million/day average trading volume.