A high-stakes corporate earnings season kicks into gear this week, with bullish investors hoping results will justify increasingly rich valuations in a US stock market near record highs.
The case for strong US economic growth got a boost on Friday, after labour market data came in far above expectations. The S&P 500 is up 20 per cent year-to-date and stands near record highs despite recent tumult spurred by rising geopolitical tensions in the Middle East.
A key test for the rally will arrive as corporate results begin rolling in next week. Companies need to post healthy profit growth and strong outlooks for next year to sustain valuations that have crept up in recent months: At 21.5 times future 12-month earnings estimates, the S&P 500 is trading near its highest level in three years and is well above its long-term average of 15.7, according to LSEG Datastream.
“One of the few rationales that the bulls can make for these lofty (valuation) multiples is that earnings growth keeps coming in at high levels,” said Wells Fargo Investment Institute senior global market strategist Sameer Samana. “With prices having run up, you really do need that earnings growth to come in probably at much better than expected levels.”
S&P 500 earnings are expected to have climbed 4.7pc in the third quarter from a year earlier, UBS equity strategists said in a report. However, earnings likely grew 8.5pc when factoring in the historical rate of positive earnings surprises, the UBS strategists said.
Such profit beats may be needed to fuel more gains in stocks. Since 2010, the S&P 500’s total return has closely tracked the increase in company earnings and dividends, according to Jack Ablin, chief investment officer at Cresset Capital. But the index has run ahead since early 2023, and is now about 18pc above expected levels, based on current earnings and dividends, Ablin found.
“The market’s a little bit over its skis here,” Ablin said. “It’s certainly anticipating some pretty strong earnings and dividend growth.”
Data on US consumer prices due next week will give investors another snapshot of the economy. A stronger than expected number, on the heels of Friday’s jobs data, could further curtail expectations for how much the Federal Reserve is expected to cut rates in coming months.
Major financial firms highlight this week’s earnings reports, with JP Morgan Chase, Wells Fargo and BlackRock due on Friday.
Bank results offer an important view into the economy, including the state of delinquencies and loan demand, said Allspring Global Investments senior portfolio manager Bryant VanCronkhite.
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