By Tim Courtney, Chief Investment Officer
On Tuesday, the S&P 500 fell for a fifth straight trading day, produced a -10% return over a week and moved into bear market territory, having fallen more than 20% from its high in January. 1 Market volatility has now made 7% or greater moves, both higher and lower, over the course of a week. Inflation remains the driver; the market is trying to gauge its effect on interest rates, spending and profit margins. The biggest concern now is whether inflation will lead us into a recession.
Some think we may already be in a recession. Starting in Q1 of 2020, we experienced a very strange cycle of a deep recession coupled with a 30-day bear market. This was followed by a spending splurge and 18-month market doubling, which turned into another bear market. Regardless of where exactly we are in this unique cycle, markets have already priced in a good amount of damage to earnings. Speaking of earnings, the reason we hold stocks, let’s look at the current earnings situation.
In 2021, we witnessed record earnings (and record profit margins) across the board in mega-cap, large-, mid- and small-cap companies. The S&P 500 Index ended the year with operating earnings of $208, bettering 2019 by $50. This would inevitably be a difficult act to follow in 2022, so initial earnings growth estimates for the year began in the relatively modest range of 5-6% growth.2 This was roughly in line with the average annual growth rate over the last century.
Within the first months of 2022, however, we saw earnings growth estimates actually increasing despite the persistent supply chain issues and the start of the war in Ukraine, with some estimates even reaching double-digit growth.3 Part of that growth was due to accelerating inflation, with stocks capturing it in higher sales. Another part was due to consumers who still seemed to be in a healthy position to continue spending. Even in today’s climate, spending has remained strong except for a slight dip in May retail sales due to weakening auto sales.4
Recently, earnings growth expectations for 2022 have begun to fall5 due to inflation and concern that consumers won’t be able to keep spending.6 Profit margins have also come down but still remain above average margins of the last 15 years.7
After rising to about $230, S&P 500 operating earnings estimates now sit around $224.7 This would represent approximately 7.5% growth over 2021. However, the market is telling a different story and indicates that earnings should fall meaningfully.
As we began the year, markets were priced for fairly good news, but instead, we have seen a war and high inflation. Prices of many speculative assets have experienced a necessary drop. The prices of important productive companies have also been pulled lower and, in many cases, are now priced for bad news. We will continue to monitor and report the drivers of near-term earnings. If you have any questions, please contact your Exencial advisor.
PAST PERFORMANCE IS NOT AN INDICATION OF FUTURE RETURNS. Information and opinions provided herein reflect the views of the author as of the publication date of this article. Such views and opinions are subject to change at any point and without notice. Some of the information provided herein was obtained from third-party sources believed to be reliable but such information is not guaranteed to be accurate. In addition, the links provided within are for convenience only and the provision of the links does not imply any sponsorship, endorsement, or approval of any of the content. We do not guarantee the content or its accuracy and completeness. The content is being provided for informational purposes only, and nothing within is, or is intended to constitute, investment, tax, or legal advice or a recommendation to buy or sell any types of securities or investments. The author has not taken into account the investment objectives, financial situation, or particular needs of any individual investor. Any forward-looking statements or forecasts are based on assumptions only, and actual results are expected to vary from any such statements or forecasts. No reliance should be placed on any such statements or forecasts when making any investment decision. Any assumptions and projections displayed are estimates, hypothetical in nature, and meant to serve solely as a guideline. No investment decision should be made based solely on any information provided herein and the author is not responsible for the consequences of any decisions or actions taken as a result of information provided in this book. There is a risk of loss from an investment in securities, including the risk of total loss of principal, which an investor will need to be prepared to bear. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will be profitable or suitable for a particular investor’s financial situation or risk tolerance. Exencial Wealth Advisors, LLC (“EWA”) is an investment adviser registered with the Securities & Exchange Commission (SEC). However, such registration does not imply a certain level of skill or training and no inference to the contrary should be made. EWA may only transact business in those states in which it is registered, notice filed, or qualifies for an exemption or exclusion from registration or notice filing requirements. Complete information about our services and fees is contained in our Form ADV Part 2A (Disclosure Brochure), a copy of which can be obtained at www.adviserinfo.sec.gov or by calling us at 888-478-1971.
The S&P 500® is widely regarded as the best single gauge of large-cap U.S. equities. There is over USD 9.9 trillion indexed or benchmarked to the index, with indexed assets comprising approximately USD 3.4 trillion of this total. The index includes 500 leading companies and covers approximately 80% of available market capitalization.