by David Aurelio.
The unofficial kickoff to the Q1 2017 earnings season is set for Apr. 13, 2017, when several of the Financials sector’s banks are expected to report results for the quarter. Heading into the quarter, year over year (Y/Y) growth is expected to be strong for both earnings and revenue. As a result, the S&P 500 will likely post the highest growth in over 5 years.
Exhibit 1. S&P 500 Banks Industry 17Q1 Key Performance Indicators
Sources: I/B/E/S data, Eikon
With the S&P 500 Banks Industry Index (.52P40101010) down 1.69% YTD, as of the Apr. 12 close, focus will be on the four constituents expected to report quarterly results before the market on Apr. 13, 2017 as they could set the tone for the 17Q1 earnings season.
The Financials sector is expected to see the second highest Y/Y earnings (+15.3%) for 17Q1. Revenue is expected to grow by 7.5%. Within the sector, the Banks industry is expected to grow 17Q1 earnings by 10.0% and revenue 3.2%. In aggregate, 17Q1 net interest income for the industry is expected to climb $3.1B (+5.5%) from the prior year. Net interest margin for the quarter is expected to increase 0.1 ppts to 2.7% and the efficiency ratio is expected to decline 1.5 ppts to 61.0%.
Exhibit 2. S&P 500 Historical & Expected Y/Y Earnings and Revenue Growth Rates
Earnings for the S&P 500’s first quarter of 2017 are expected to increase by 10% from the prior year and revenue is expected to grow by 7%. If this holds, 17Q1 will be have the best first quarter Y/Y growth since 11Q1, when earnings and revenue grew by 18.9% and 9.4% respectively.
The S&P 500’s 10% Y/Y earnings growth rate is the highest since 14Q3’s 10.3%. However, on average 64% of S&P 500 companies exceed earnings expectations, which lead the index to post earnings above estimates by a median of 3.7%. As a result, Y/Y earnings tend to improve as earnings season proceeds. Therefore, it is likely that the S&P 500’s 17Q1 Y/Y earnings will exceed 10.3% to be the highest since 11Q3’s 18.0%. This quarter is also likely to be the highest Y/Y revenue growth (+7%) since 11Q3’s 11.1%.
Exhibit 3. S&P 500 17Q1 Y/Y Growth Rates & Percentage Point Contributions
Source: I/B/E/S data
The Energy sector’s easy comparisons to negative earnings in 16Q1 are expected to see Y/Y earnings increase by 597% and Y/Y revenue of 35.7%. As a result the sector is the largest contributor to the S&P 500’s 17Q1 Y/Y growth and adds 3.8 ppts to 17Q1 Y/Y earnings and 2.5 ppts to 17Q1 Y/Y revenue. Within the sector, the Integrated Oil & Gas sub-industry is expected to see the largest 17Q1 Y/Y earnings (379%). Analysts expect the group to reduce total production for 17Q1 by 2.3% from the prior year and upstream income to increase by $3.8 billion (274%) from 16Q1.
On the flip side, the Industrials sector is expected to see the largest decline in 17Q1 Y/Y earnings (-5.4%). Face with tough comparisons and higher fuel costs, the Transportation industry group’s 17Q1 Y/Y earnings decline of 17.7% is the largest drag on the sector. However, the group is expected to see 17Q1 revenue climb 6.2%, which is the highest within the sector.
Exhibit 4. S&P 500 Expected Effective Tax Rates
Sources: I/B/E/S, Eikon
One question that often comes up when looking at the high earnings growth rates for the S&P 500 over the next several quarters is if analysts have incorporated expectations for tax reform within their estimates. The aggregate effective tax rates for the S&P 500 in 17Q1 through 18Q1 show that tax reform is not baked into earnings estimates, which is expected to average 30.1% over the five quarters. The, Real Estate, Semiconductors & Semiconductor Equipment, and Pharmaceuticals, Biotechnology & Life Sciences industry groups are expected to have the lowest effective tax rates in 17Q1.
Companies appear to be more positive on their guidance for the quarter than historical averages. There have been 80 negative earnings pre-announcements compared to 32 positive, which provides an N/P ratio of 2.5. This 2.5 N/P ratio is below the long-term average of 2.8 and below the prior four quarter average of 4.3. The Semiconductors & Semiconductor Equipment industry group is the most positive and has an N/P ratio of 0.1, with one negative guide, 11 positive, and two in-line with estimates. Conversely, the Retailing industry group has provided the most negative guidance, with nine negative guides and no positive or in-line.
Most of the primary measures look strong heading into the 17Q1 earnings season. Not only are Y/Y earnings and revenue likely to be at the highest levels since 2011. Companies are signaling positive sentiment through their guidance. Finally, earnings results for the 5% of companies that reported 17Q1 have come in above estimates. So far 72% of S&P 500 beat 17Q1 earnings expectations, which is above the long-term average of 64% and above the previous four quarter average of 71%.
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