Corporate earnings season for the second quarter of 2021 (April – June period) has started, and it has started strong. According to FactSet, 8% of the companies in the S&P 500 Index have reported results so far this earnings season. Of these companies, 85% of them beat consensus profit expectations (the forecasts of profits published by investment banks) – this is above the five-year average of 75%. Consensus forecasts are important as they tell us what the market expects to happen and sets valuation levels for stocks.
If the trend we have seen so far holds through the remainder of earnings season, i.e., 85% of the S&P 500 beats expectations, this would be the second-highest beat versus market forecasts since FactSet began tracking these data in 2008.
The scale of beats is also worth looking at too. Those companies that have beaten earnings expectations so far reported profits, on average, that were +23% above the consensus forecast. The five-year average of this metric is +7.8%. So not only are the vast majority of companies beating expectations, but the size of the beat is also large and above historic levels.
Large numbers of companies beating earnings estimates by a sizeable margin would suggest earnings estimates are too low and, consequently, that higher equity valuations are justified. This runs contrary to the idea that this market is as good as it gets, stocks are expensive, and we’re waiting for a sell-off. Corporate earnings as strong as these, if replicated over the coming weeks, would justify the strong market performance seen over the past year and could propel the market higher.
In other words, quarterly earnings released thus far imply that the market still has room to move up.
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