The Earnings Estimate is Rising, Indicating a Market Rally in 2023

The recent pause in the stock market's rally may find renewed vigor in the upcoming corporate earnings season. As we approach the reporting season, which will notably commence in October, there is an expectation that companies will showcase an upturn in their earnings after enduring three consecutive quarters of year-over-year declines. Current forecasts indicate a modest 0.5% increase in profits among companies constituting the S&P 500, contributing to an overall 1.2% growth projection for the year 2023, according to Trade Algo.

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This positive outlook is partly attributed to analysts revising their estimates upward for the current quarter during the initial two months—a phenomenon not observed since the third quarter of 2021, as highlighted by John Butters.

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The prospect of rising profits offers a promising development following a period during which the stock market's gains significantly outpaced anticipated profit expansion. Despite experiencing declines in four of the past six weeks, the S&P 500 has surged by 16% this year.

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Nancy Curtin, Chief Investment Officer at the wealth and asset management firm Alti Tiedemann Global, articulated, "The real litmus test for the market lies in delivering positive earnings growth, not merely a reduction in negativity, but actual positivity."

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However, some analysts caution that the market may have already factored in much of the anticipated improvement in earnings forecasts. They emphasize that stocks still appear relatively expensive from a historical perspective, even following the recent pause in market momentum.

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Currently, the S&P 500 trades at 18.7 times its projected earnings for the next 12 months, exceeding the 10-year average of 17.7 and marking an increase from 16.8 at the close of the previous year.

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Profit projections are near or at all-time highs across most S&P 500 sectors, including technology, communication services, and consumer discretionary segments. These sectors have spearheaded the index's gains for 2023, with technology stocks advancing by 41%, communication stocks by 43%, and consumer discretionary stocks by 32%.

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Recent days have also seen analysts offering their most optimistic per-share earnings estimates for the industrials sector and the utilities group, which has faced challenges. Industrials have risen by 7.1% this year, while utilities have declined by 11%.

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David Lefkowitz, Head of U.S. Equities at UBS Global Wealth Management, anticipates a range-bound trajectory for stocks through year-end. He attributes this to factors such as the resumption of student-loan repayments, elevated energy prices, and mortgage rates. His team's projections suggest that the S&P 500 will reach 4500 in December and 4700 by next June, representing respective increases of 1% and 5.4% from the closing levels of Friday.

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Lefkowitz emphasized, "For the market to sustain further upward movement, we would need to see continued profit improvements over a more extended horizon."

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This optimism surrounding earnings coincides with growing confidence among investors and corporate leaders in the strength of the economy. Consumer spending and the job market have displayed resilience even in the face of the Federal Reserve's assertive interest rate hikes. Inflation, which reached a peak of 9.1% in June 2022, has moderated to a 3.2% annual level as of July.

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Investors will closely scrutinize the forthcoming data on consumer-price inflation, scheduled for release on Wednesday, as well as producer-price figures on Thursday. These data points will play a crucial role in shaping expectations regarding the Federal Reserve's future actions. While market participants are nearly certain that central bank officials will maintain rates in their upcoming meeting, there is a 45% probability, as per CME Group's FedWatch tool, of at least one more rate hike by the end of the year.

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Worries about the economy within large U.S. corporations appear to be waning, as evidenced by a decline in mentions of "recession" during earnings calls. From June 15 through August 31, 62 companies in the S&P 500 referred to a "recession," down from 113 in the previous reporting period and significantly below the peak of 238 noted in the summer of 2022, according to data.

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