Q3 2017 Earnings Season will be the last earnings look at companies in 2017. So the importance is magnified as portfolio managers scurry to lock in good trades, and hedge funds begin to position themselves for 2018. There is usually increased turnover during the fourth quarter while these moves take place.
Impact of the Hurricanes:
It is a strange quarter because there were three hurricane events that could depress Q3 2017 earnings in some sectors (retail in particular) while increase other sectors (Materials). Companies that had extensive operations in Houston, Western Florida, and Puerto Rico can be expected to have larger writeoffs if they experienced damages. Insurance companies also will bear the brunt of the storms. So it will be a quarter that will require investors to “look under the covers” and truly understand what is going on at impacted companies. Today’s Employment Report indicating negative employment growth shows that the economy has been impacted by these weather events, so it will not be surprising to see companies feeling some of the pain.
Q3 2017 Earnings Expectations:
Given that build up, what should we be expecting, and more importantly, how will the market react to the upcoming earnings report. Currently, the market is priced for growth. The overall P/E of all S&P 500 companies is 17.4, which is higher than the normal 15 P/E ratio. To justify those multiples then, the market is expecting growth. This sets up a situation where companies must beat estimates.
Factset is reporting that Estimates are showing a 4.2% year over year growth from Q3 Earnings in 2016. While this still shows growth, there has been recent erosions in these estimates. Just two months ago, analysts were expecting earnings to grow 7.5% this quarter. We are seeing companies releasing more negative guidance than positive guidance, and are generally trying to tamp down expectations for this quarter. This will be a quarter that is slow and steady.
Remember that last quarter, a positive earnings surprise did not guarantee upwards stock price movement. In fact, the average move for a company beating estimates was a -.3 price movement. It was the first quarter in 5 years where this occurred. So far, early earnings releasers are showing that this trend is continuing. This means that a good Q3 2017 earnings report does not guarantee good short term price performance.
Q3 2017 earnings will be a slow and steady earnings season. Investors will have to look deeper to understand the earnings reports. While finding good companies that are growing earnings and beating estimates is very important, it may not lead to good short term performance. The market will punish stocks that can’t hit estimates AND stocks that barely beat estimates.