I wrote a preview a few weeks ago about the pending Q1 US equity earnings season.  Expectations for earnings growth were high and needed to be met and exceeded for the bull market to continue. While the good news is that Q1 US earnings did deliver (79% of companies have beat consensus EPS projections, which is well above the long-term average of 69%) the most interesting aspect of this Q1 earnings season in the US, was the share price reactions were somewhat more muted than usual in response to the confirmation of strong earnings. I tend to believe that’s trying to tell us investors are becoming more discerning at the multiples they are prepared to pay for earnings growth in the US. That is a reasonable behaviour as the federal reserve lifts interest rates, and bond yields rise form record low yields.

 

From a technical perspective, the US Q1 earnings season was enough to again see the benchmark S&P500 Index bounce of the 200-day moving average. The 200-day moving average has been tested and held on at least five occasions in 2018 already, which is encouraging, however I would be concerned if it broke and held below at any point soon.

S&P500: bouncing off 200-day MVA

Looking into the detail of US 1Q earnings results, 82% of companies have released results so far, with 79% beating consensus EPS projections. Moreover, 76% have posted Q1 revenues that topped expectations, exceeding the long-term average of 56%. The surprise factor for year-over-year numbers in Q1 stands at a robust 7% for EPS and 1.5% for sales. The earnings surprise reading is well above the long-term average of 5%, while the sales surprise figure is right at the average.

Strength in earnings and revenues is broadly based. EPS rose in Q1 2018 versus Q1 2017 in all 11 sectors. The EPS results are particularly strong in energy (84%), technology (35%), financials (30%), materials (30%) and industrials (25%). The technology, materials, real estate and industrial sectors likewise all experienced substantial sales gains (16%, 13%, 14% and 11% respectively). Excluding energy, S&P 500 profits in Q1 2018 versus Q1 2017 are still vigorous at 24%.

 

In summary, it was a blowout quarter for U.S. earnings. Strong profit growth will underpin US equities, but this tailwind will begin to diminish in 2019 as the economic expansion matures.

 

Below I am going to reproduce a series of Morgan Stanley charts that provide a more detailed summary. These tables should give you a better understanding of the breadth and strength of the US earnings season:

Year on year growth

 

Actual y/y EPS growth (based on only the companies that have reported) for 1Q18 is currently at 25.2%.

 

Blended EPS growth (results plus estimates for unreported companies) for the S&P 500 is tracking at 24.2%. The sector projected to see the best y/y growth is Energy at 92.9%, followed by Materials at 44.89% and Financials at 26.5%. Meanwhile, REITs are projected to see the worst YoY growth at just 5.5%. No sector is projecting an earnings decline for 1Q18.

 

Actual sales growth is currently tracking at 9.3% and blended sales growth at 8.4%. Materials are projecting the best y/y revenue growth at 22.2%, followed by Tech 16.0% and Energy 13.5%, the same three sectors with the highest revenue growth in 4Q17 and 3Q17. Meanwhile, Utilities are projecting the worst sales growth at 2.1%, but it is no longer negative.

Size

 

Bigger companies are beating by a larger degree, but not being rewarded by the market.

 

The biggest companies (S&P 100) have beat on earnings by 8.8% and beat sales by 1.26% versus consensus, while the rest of the S&P 500 beat EPS by 5.6% and beat sales by 0.93%. In terms of earnings day relative performance, larger-cap companies underperformed the market by -48bps, while the rest of the SPX has underperformed by only -25bps on earnings day.

Foreign sales 

So far, more international companies have delivered better earnings and sales beats, though earnings day relative performance has been poorer than the domestic companies. Companies with more foreign sales (greater than 25%) have delivered a 9.7% EPS beat and 1.32% sales beat, while companies with less than 25% foreign sales beat EPS consensus by 4.9% and beat sales consensus by 0.85%. Companies with more foreign sales were down -72bps on the day of results relative to the market versus up 14bps for more domestic oriented companies.

Source: FactSet

 

Performance

This earnings season, you have generally needed a beat on the top and bottom line to outperform SPX.

242 companies that beat earnings and sales outperformed the market by 0.7% on earnings day. Meanwhile, those companies that missed EPS, but beat sales, are being punished the most in the market, underperforming by -4.0% on average. Overall, companies that reported earnings were down -30bps relative to the market on the day of their earnings.

The point of today’s note is that the biggest equity market in the world, that represents 50% of world equity indices, more than passed the Q1 earnings test. This is good news and should help overall global equity market sentiment. That said, I remain of the view that the S&P/ASX 200 looks very full above 6000 points and I’d be waiting for a better opportunity to deploy capital domestically in the weeks and months ahead.

 

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.