You’ve Got to Earn It: Earnings Growth Strong, But Descending

The third quarter is in the books, but not yet with the final readings for either the economy broadly, or corporate earnings specifically. The first read on third quarter real gross domestic product (GDP) was released on Friday, and it was a disappointment relative to expectations—driven in large part by ongoing global supply chain bottlenecks and labor shortages. The details of GDP are in the table below. The 2% gain (quarter-over-quarter at an annualized rate) was less than the consensus estimate of 2.6%; and well below estimates that were as high as 7% at the start of the quarter.

Source: Charles Schwab, Bureau of Economic Analysis, as of 9/30/2021. *Represents contribution to percent change in real GDP. Numbers may not add up to 100% due to rounding. Real GDP based on annualized Q/Q % change.

A theme of my recent reports and videos has been the shift from an age of abundance to an age of scarcity. Shortages of myriad varieties, including labor and semiconductors, are likely to be persistent and carry well into next year; suggesting a significant rebound in the big GDP driver of consumption is not in the cards. In the meantime, weaker-than-expected GDP growth in the third quarter was not matched by weaker-than-expected S&P 500 earnings growth.

Another stellar, but slower, quarter

Third quarter earnings season is in its latter innings and so far, so good. Using Refinitiv data, the “blended” expected year-over-year growth rate for S&P 500 earnings is nearing 40%. (Blended refers to the combination of actual earnings for companies that have already reported and consensus estimates for companies yet to report.) Excluding the Energy sector, the blended expected growth rate is 31%. As of Friday, about 280 companies have reported earnings, with more than 82% beating estimates; which compares to a long-term average of less than 66% and a prior four quarter average of nearly 85%.

As shown in the table below, even if earnings growth accelerates from here as more companies report, there is no chance the growth rate will exceed second quarter’s 96% (bottom row). Growth is expected to continue its deceleration into the first half of next year. From a sector perspective, Energy is clearly the top earnings driver—driven by the “base effects” relative to last year’s pandemic/lockdown era when oil prices briefly fell into negative territory. Aside from Energy, the highly-cyclical Materials and Industrials sectors top the rankings, with the defensive Utilities and Consumer Staples sectors bringing up the rear.

Source: Charles Schwab, I/B/E/S data from Refinitiv, as of 10/29/2021.