Despite relatively weak economic growth, S&P 500 earnings once again outperformed consensus expectations during the 2nd quarter. According to Smith Group Asset Management, after 93% of the benchmark’s constituents had reported, 77% of companies outperformed consensus earnings expectations while 74% exceeded consensus sales expectations. The median earnings surprise surpassed expectations by 3.4% while the median reported sales surprise was 1.7% greater than expectations. The median company’s earnings growth over the same quarter in 2010 was a robust 15.40%.
Utilities, materials, and telecom are the three smallest sectors in the benchmark, combining to comprise approximately 10% of its capitalization. Of the 10 economic sectors, they were the only ones in which fewer than 73% of companies surpassed earnings expectations. Importantly, two cyclical sectors, consumer discretionary and technology, posted the two largest median surprises. After 85% of consumer discretionary companies had reported, the median earnings surprise for the sector was 6.1%. With 89% of technology companies having reported, the median surprise was 5.1%. Of those companies that had reported, 83% of discretionary companies and 86% of technology companies surpassed expectations. Both sectors also experienced better than expected revenue growth.
Two more cyclical sectors, the energy and financial sectors, posted the third and fourth largest median surprises. With all of the stocks in the energy sector having reported 2nd quarter earnings, 73% surpassed expectations with median outperformance of 3.7%. After 95% of financial companies in the index had reported, 75% beat expectations with a median surprise of 3.4%. The energy stocks had the largest median revenue surprise of any sector, with the median company surpassing consensus revenue projections by 5.4%.
In seven of 10 economic sectors, median earnings posted double-digit growth over the 2nd quarter of 2010; the exceptions being the consumer staples, utilities, and telecom sectors. Median earnings growth for the first two were in the mid single-digits while the median earnings growth of the telecom sector was negative 1.7%. The energy and materials sectors experienced the strongest earnings growth. Median earnings growth in the energy sector was 38.5% while that of the materials sector was 29.3% (Chart 1). Yet through September 12th, utilities and consumer staples stocks suffered modest quarter-to-date declines while energy and materials stocks have been savaged, suggesting that what we have witnessed over the last six or seven weeks is another example of the “risk-on, risk-off” trade.
Smith Group notes that consensus earnings estimates for the 3rd quarter of this year have been revised significantly lower. While they had been north of 14%, they were 11.3% as of their report, dated September 1st. While this revision is certainly significant, the current consensus still represents attractive earnings growth. True, margins have likely peaked and earnings growth is likely to slow. Yet 2nd quarter earnings indicate that corporate profitability remains well intact. We believe that US equity market performance since the beginning of August reflects fears associated with the European debt crisis and political stalemates in Washington rather than the underlying economic fundamentals of publically traded US companies.