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Falling 2019 Profits On Collision Course With The Great Bull Market

U.S. stocks have staged an impressive rebound to start 2019 after a brutal fourth quarter, but an increasingly gloomy outlook for corporate profits indicates that these gains may be unsustainable. The latest consensus estimates from stock analysts anticipate a 1.4% drop in S&P 500 earnings for the first quarter of 2019, with 7 of the 11 sectors in the S&P declining, the Wall Street Journal reports.

Doug Kass, founder of hedge fund Seabreeze Partners Management, warns that the stock market has “detached itself from reality" and that "bull market complacency is back," per his blog as quoted by MarketWatch. The table below summarizes key recent negative developments regarding S&P 500 profits.

Darkening Outlook For Profits

  • Plunging 1Q 2019 S&P 500 profit estimates: +7% in Sept. 2018 and -1.4% today
  • More than 30 S&P companies forecast 1Q 2019 profits below estimates
  • Among the 30: Netflix Inc. (NFLX), Delta Air Lines Inc. (DAL), and Estee Lauder Cos. Inc. (EL)

Source: The Wall Street Journal

Significance For Investors

The situation is deteriorating at an accelerating pace. Just days ago, the consensus called for a year-over-year (YOY) profit decline of 0.8% for the S&P 500, with 6 of the 11 S&P sectors to be in the red, per CNBC.

Profit estimates may go lower. Doug Kass notes that "global economic growth is so fragile and beginning to show signs of deteriorating," adding to his concerns about equity investors' complacency and detachment from reality.

That could lead to more market upheaval. “Given the fact we’re seeing a slowdown in the 10th year of an economic recovery, there’s a persistent fear that every slowdown we witness will be the end of a cycle,” as Jeremy Zirin, chief equity strategist at UBS Wealth Management Americas, told the Journal. “Investors should be prepared for higher levels of volatility than we’ve seen over the past several years," he added.

Mike Wilson, chief U.S. equity strategist at Morgan Stanley, is forecasting an earnings recession, or profits that are declining on a year-over-year basis, that will last throughout 2019 and probably beyond. Wilson had advised investors to abandon U.S. stocks even when his projections called for modest earnings growth this year. Slowing GDP growth, potentially long-lasting damage from the U.S.-China trade conflict, and increasingly negative earnings guidance from companies are among his chief concerns.

Goldman Sachs lists corporate earnings as one of the four factors that will have the most impact on stock prices in 2019, per a recent report. While their latest projections call for profit growth in 2019, they acknowledge that the downtrends in consensus estimates and corporate guidance are causes for concern. Goldman even has indicated that it, too, may have to slash S&P 500 earnings estimates if the environment deteriorates more. Meanwhile, a strong U.S. dollar has eaten into the profits of many companies that have significant exports or overseas operations, as Bloomberg details.

Looking Ahead

Investors will have to weigh two opposing trends as weakening earnings collide with the current, robust stock market rebound. The reality is the macro force of slowing worldwide economic growth is beginning to weigh heavily on corporate earnings, and the recent tilt toward dovishness by the Federal Reserve is unlikely to stem the tide. As a result, the stock market will have to overcome increasingly powerful negative forces to rise higher.