The S&P 500 (NYSEARCA: SPY) 3rd Quarterly earnings reporting season is fast approaching and it’s time to start preparing for a very bad season. While there are some glimpses that inflation has peaked, it remains high, weighing on the bottom line outlook and compounded by supply chain issues both old and new. Companies that still have strong businesses are struggling to meet demand due to supply chain constraints, while weaker businesses face a bloated inventory. The bottom line is that the outlook for earnings and earnings growth is weakening and not expected to improve as the FOMC is on track to raise rates by another historic 75 basis points.
The outlook for earnings growth is worse than it appears
The earnings outlook has been down for the past couple of months, which is bad enough on its own, but there are some underlying details that make the situation worse than it appears. At face value, consensus estimates for the third quarter, fourth quarter and full year fell to new lows in the past two weeks. The outlook for the third quarter is now just 3.6% compared to a high of 11.6% set earlier this year. Consensus has fallen 800 basis points over that time and is on track to hit 0% by the start of the reporting period. This is only the second reporting season since the bottom of the pandemic that consensus has fallen, and the pace and depth of the decline accelerated from the previous quarter.
The consensus for the 4u The quarter has fallen less than 3rd quarter outlook, but that will likely change by the 3rdrd the quarter reporting period wears off. As it stands now, the Q4 consensus is 4.9% which is down 310 basis points from its high. Assuming Q4 consensus falls in line with current trends, it’s very likely that Q4 2022 will produce negative earnings growth, and that doesn’t bode well for S&P 500 prices. The only ray of light in the Outlook data is that consensus on C2023 has been higher in the past two weeks, but don’t read too much into that. With consensus for C22 falling, the increase in expectations for C23 is a function of this year’s weakness rather than next year’s strength.
On a sectoral basis, the news is even worse. The consensus estimate for ten of the eleven S&P 500 sectors is in decline and only 4 are expected to show growth. Of these, only the Energy Sector (NYSEARCA: XLE ) marks upward revisions and even here the pace of revision and growth expectations are down from the previous quarter. More importantly, three of the most important sectors for the fourth quarter outlook are receiving massive downward revisions that have Consumer Staples (NYSEARCA: XLY )The Materials (NYSEARCA: XLB)and Communication Services (NYSEARCA: XLC) all sectors are looking at negative growth for the quarter.
The S&P 500 Technical Outlook: Nothing bullish about it
The weekly chart of the S&P 500 shows an interesting technical setup because it highlights the biggest flaw in technical analysis. the technical indicators and the signals they give are cold. This means that a buy signal and a sell signal often look identical, which is the situation we have today. The index is set up in a way that could lead to an uptrend, but it is easy to read the uptrend on the charts because most investors are bulls, not bears. However, against the background of the economic conditions and the dominant technical signals driving the market today, the index seems to be building a big downside that could easily take it to a new low. The dominant technical signal is a long-term Head&Shoulders reversal pattern that has been in place since December last year. This pattern was not only confirmed with a drop below the 4,100 to 4,300 level, but it was reconfirmed not once but twice with subsequent declines from the same level.
So the S&P 500 is in a relief rally and the chart looks like it could be set up for a rally, but resistance looks to be much stronger than support. Resistance can be measured in the 4,100 – 4,300 range which is a previous support level, the baseline of the H&S pattern, a resistance point that has been confirmed once, twice, three times and now coincides with the 30 and 150 day EMAs. This combination, coupled with the expected weakness in earnings, will not allow price to move above 4,300 without a change in the fundamental outlook, and there is little chance of that happening. The best-case scenario is that earnings for the broad S&P 500 will be better than expected and have a favorable outlook for margins if not revenue growth. In this scenario, the index will likely move higher, but it is too early to bet on that outcome now. If the indicator is going to move higher, there will be a better signal than what it is showing.