by Thomas Alonso and Tajinder Dhillon.
As we enter 21Q4 earnings season, growth rates remain strong but continue to pull back from the near record levels we saw in 21Q2.
The current 21Q4 earnings growth rate of 22.4% could be the last quarter of double-digit growth before we transition to more reasonable year-over-year (YoY) growth rates as the COVID drag on earnings begins to be lapped (See Exhibit 1).
Exhibit 1: S&P 500 YoY Growth Rates
Of the 20 companies that have reported thus 21Q4 results thus far, 70% have beat analyst expectations which is below the prior four quarter average of 83.9% but still well above the long-term average of 65.9%. The magnitude of beats, as defined by the earnings surprise factor, is 7.0% so far, well shy of the prior-four quarter average of 16.0% but ahead of the long-term average surprise factor of 4.1%.
While it is still early into the reporting period, if the surprise factor remains around the 7.0% level, we anticipate 21Q4 earnings growth to improve from 22.4% to 30.7% which yields an 8.3 percentage points (ppt) improvement.
This will be in sharp contrast to 21Q1 and 21Q2 where earnings growth dramatically improved throughout the quarter by 28.5 and 30.8 ppts respectively. 21Q3 also saw a strong improvement in earnings growth throughout the quarter, improving 13.2 ppts
To this point, 21Q4 earnings growth expectations have remained flat over the last two months having changed from 22.2% on October 29th to 22.4% on January 7th, a 0.2 ppts improvement as shown in Exhibit 2. In a typical quarter, YoY growth expectations decline by an average of 3.3 percentage points (ppts) from the start of the quarter to the start of earnings season.
This is a sharp contrast from 20Q3-21Q2 where earnings growth improved heading into earnings season as analyst estimates have been overly pessimistic during the height of the pandemic.
Perhaps explaining the change in behavior this quarter can be attributed to heightened reservation amongst analysts in excessively raising estimates given the current headwinds of the Omicron variant, supply chain bottlenecks, rising inflation, and potential rate rises from the Federal Reserve.
Exhibit 2: S&P 500 Growth Rate Change Heading into Earnings Season
High Expectations for Energy Continue
Exhibit 3 shows 21Q4 earnings and revenue growth rates at an index and sector level. The Energy sector growth rate is currently forecast at 10,527.1%, which is by far the highest sector growth is expected to be the largest YoY growth rate for the sector since Refinitiv has tracked this data. This follows the 1,798.0% YoY growth in earnings the energy sector posted in 21Q3 as the sector continues to recover from the collapse in oil prices last year.
Exhibit 3: S&P 500 21Q3 Growth RatesSource: S&P 500 Earnings Scorecard January 7, 2022
From an earnings contribution perspective, the sector is currently forecasted to contribute 7.94 ppts towards the index growth rate of 22.4%, by far the largest of any sector. This is despite having the smallest number of companies of any sector in the index (21) and being only the 8th largest sector by market cap.
This is followed by Information Technology (4.14 ppts) and Health Care (3.12 ppts). These three sectors alone are expected to contribute almost 70% of the overall index growth (15.2 ppt to the 22.4% 21Q4 earnings growth rate).
The Energy sector is expected to be the post the best earnings growth over the next few quarters, with earnings growth currently forecasted at 166.5% 22Q1 and 60.7% for 22Q2. However, as we reach the end of 2022 year-over-year comps will become more difficult and growth rates are forecasted to turn negative. It remains to be seen if continued moves higher in energy prices will change the outlook for 2H22.
Earnings Watch in 21Q4
As is usually the case, earnings growth is expected to be driven by a handful of constituents. Exhibit 4 highlights the top 20 constituents that have the largest earnings contribution (PPT) along with the expected report date, mean estimate, Smart Estimate, and Predicted Surprise (PS).
This basket of constituents is currently expected to contribute 13.9 ppt towards the current forecasted 21Q4 index level earnings growth rate of 22.4%, or almost 62% of total index growth.
Exhibit 4: 21Q4 Earnings WatchEnergy (5), Health Care (4) and Industrials (4) are the most represented sectors in the top 20 contributors to growth, with Exxon Mobil, Chevron and Moderna forecast as the top 3 largest PPT contributors.
Paying attention to the PS will be important, as this will help predict any significant earnings surprise which will ultimately impact the trajectory of the index level growth rate.
The PS compares the StarMine SmartEstimate to the consensus mean. By overweighting analysts who are more accurate and timelier, the SmartEstimate provides a refined view into consensus. Comparing the SmartEstimate to the mean estimate leads to our PS, which accurately predicts the direction of earnings surprise 70% of the time when the PS is greater or less than 2% / -2%.
Within this basket, 8 constituents are expected to post a positive earnings surprise while just one constituent is expected to post a negative earnings surprise.
A look at 2021 and 2022
Using the EARN app in EIKON, we can see how 2021 and 2022 EPS estimates for sectors and the S&P500 overall have trended. In Exhibit 5, we show YoY growth rates for EPS for sectors and the S&P500 overall, as of 1 day ago, and then at 9/30/2021, 6/302021, 3/31/2021 and 12/31/2020.
After rising for most of the year in the wake of solid results, 2021E EPS for the S&P500 overall have actually moved down in the most recent quarter, although estimates remain at a very strong 42.2% YoY. The recent decline could possibly be due to the impact of rising commodity costs and supply chain disruptions in the quarter, as well as the more recent impact of Omicron variant on activity. That said, we’d note that expected EPS for 2021 is up 17.7 ppts since the end of 2020.
Exhibit 5: EARN App Data for YoY EPS Growth Source: Refinitiv Eikon Workspace
We continue to see the strong 2021 results impacting 2022 growth rates, with the expected growth rate falling to 8.5% from 16.0% at the end of 2021Q1 as per Exhibit 6.
Exhibit 6: EARN App Data for YoY EPS Growth Source: Refinitiv Eikon Workspace
As we’ve noted in the past, the decline in 2022E EPS growth is not a function of declining earnings, but rather a denominator effect from stronger 2021 growth relative to 2022. The bottom-up EPS calculation from our This Week In Earnings report (available here) shows that as of 1/7/2022, 2022 bottom up EPS is expected to be $223.35/share which is up 14.5% from $195.14/share at the start of the year, but below the 23.0% growth in 2021 estimate over this same time period (See Exhibit 7).
Exhibit 7: S&P 500 Bottom-up EPS Estimates
Source: I/B/E/S data from Refinitiv
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