Stock Market

Corporate America Signals End to Profit Woes with Earnings Surge

As the current earnings season rounds off, a promising theme has emerged from the world of Corporate America—indications of last year's profit struggles appear to be subsiding. The evidence is found in the numbers: with 90% of S&P 500 companies having reported, earnings have experienced a noteworthy ascent of 7.3% in the first quarter of the year. This marks the second-largest profit growth in a 24-month span, as indicated by an analysis by Bloomberg Intelligence. Even more impressive is the figure excluding large pharmaceutical firms, which reveals an even more robust profit expansion of 10.5%, the most substantial since the end of 2021.

Brooke May, the managing partner at Evans May Wealth, suggests that the overwhelming portion of the earnings growth can be linked back to Big Tech. Nevertheless, there's a broadening enhancement throughout the market that could support further equity advances. Investors have deemed stock valuations slightly high, but May interprets this as a harbinger of sustained earnings progression expected in subsequent quarters.

Amid a resilient economic backdrop that seems to be fostering a return of optimism to boardrooms, the market's confidence is bolstered, reflecting in the growth of profit for a third straight quarter. Still, there's a looming question cast by the year's earnings predictions that have remained largely static at around $245 per share. The real test now looms for chief financial officers: will they be able to sustain these profit levels in the face of enduring inflation while guidance on profits remains cautious?

Insights from the First Quarter Earnings

The Dominance of Big Tech

One cannot ignore the powerful influence of Big Tech companies that continue to drive the profitability of the S&P 500. Their robust profit margins have restored confidence to the markets, especially after a tepid start to April. All eyes will be on Nvidia Corp., a leader in artificial intelligence, as it announces its own earnings—the final report among the influential group called the 'Magnificent Seven' companies.

This illustrious group—comprising Apple Inc., Microsoft Corp., Alphabet Inc., Amazon.com Inc., Meta Platforms Inc., Tesla Inc., and Nvidia—is expected to register a staggering 49% increase in earnings for the first quarter. This is a stark contrast to the rest of the S&P 500, where profits are projected to slip by 1.4%. However, the forecast signals a turn of tide, with the expectation of positive net-income growth for the S&P 500, discounting the influence of Big Tech, starting from the second quarter.

A Revival in Buybacks and Dividends

A notable trend this earnings season has been the uptick in buybacks and dividend issuances by tech entities—a bullish signal which could catalyze the next stock market rally. Leading the charge, Apple announced the most sizeable buyback in U.S. history, while Alphabet not only declared its inaugural dividend but also revealed an intention to repurchase an additional $70 billion in stock. Similarly, Meta unveiled its plans for an additional $50 billion in share buybacks.

The actual figure for completed buybacks surged by 16% in comparison to the same period in the previous year. Birinyi Associates Inc. reported that among firms that have repurchased their stock in both 2023 and 2024, nearly 59% raised their buybacks this year.

Improved Margins Despite Sales Slump

Prevailing concerns about eroding profit margins have been contradicted as companies report figures. An impressive 72% of S&P 500 firms reported net-income margins surpassing expectations for the first quarter, marking the highest ratio since BI data collection began in 2021. Looking ahead, margins are expected to further solidify, particularly within technology and communication-services sectors, whereas consumer staples and health care might confront challenges.

Consumer Resilience in Focus

Following Walmart Inc.'s demonstration of persistent sales growth, upcoming reports from Target Corp. and Lowe’s Cos. are anticipated to shed more light on consumer comportment and corporate profitability. While growth remains centered on tech and communication services, the largest margin of earnings exceeding estimates is attributed to staple companies, where 90% posted impressive results. Goldman Sachs Global Investment Research observes a shift in shopping behavior, with consumer trends leaning towards less expensive products. This shift corresponds with consumer sentiment dipping to a six-month nadir in May.

The Waning Discourse on AI

AI has been a buzzword in many a corporate earnings calls, with mentions by S&P 500 entities climbing to 41%, an upshot from 23% the previous year, as per Goldman Sachs statistics. However, both the U.S. and Europe have exhibited a plateauing trend in AI discussions.

Within the last earnings season, the energy sector has witnessed the most significant uptick in AI mentions. Contrastingly, industrials and staples are sectors where AI seems to evoke the least interest. Dennis DeBusschere, chief market strategist at 22V Research, pointed out in a note that while the allure of AI remains high—whether out of genuine enthusiasm or simply for signaling purposes—actual investments and implementations of AI tools are proving scarce.

The driving force underpinning the optimism in corporate profitability and market expansion appears unequivocally clear. Corporate America is signaling a bounce-back from the profit slump of yesteryear, and the markets are responding in kind. With technology companies spearheading earnings growth and dividends, and buybacks witnessing an upsurge, the underpinnings of the markets’ rise seem solid. Yet, the pressure is undeniably on the financial stewards of these corporations to uphold this momentum in the face of a complex economic landscape marked by persistent inflationary pressures.

Investor anticipation is high as the concluding Big Tech earnings are disclosed, promising a clearer picture of the trajectory that awaits the stock market and the broader economy. With companies across the spectrum adapting through cost management and strategizing for margin improvements, the resilience of the economy offers a fertile ground for growth.

As the current chapter of profit growth draws to a close, the plotting of the next leg up is already underway. The strategies undertaken by companies this quarter—ranging from defensive cost-cutting to aggressive capital return programs—sketch the outlines of an emerging narrative for Corporate America. One where resurgent profits are not just a rebound effect but part of a broader, durable economic expansion that could sustain the skies-high valuations we see today.

Looking beyond the immediate horizons, the emphasis on consumer spending patterns and AI integration points to evolving market dynamics. These factors will significantly influence how firms position themselves for the future. With the ebbs and flows of consumer sentiment in the wake of inflationary pressures, and the tantalizing yet unfulfilled promises of AI, companies are navigating through a transformative period.

This holistic view of the market and Corporate America's prospects draws us to a pivotal juncture that weighs the robustness of earnings against the backdrop of broader economic conditions. As the next quarters unfold, the continuous reassessment of strategies and market reactions will chart the course for both companies and investors alike.

In conclusion, the message from this earnings season is resoundingly clear: Corporate America is weathering the storm and appears primed for continued growth. The resilience displayed thus far is a testament to the adaptability and strategic foresight of these companies. However, with the specter of inflation still hovering, it is the test of maintaining profitability that will truly define the success of these corporate giants in the quarters to come.

©2024 Bloomberg L.P. - Source

Contributors to this article include Bloomberg Intelligence and analysis by financial institutions such as Goldman Sachs Global Investment Research and Birinyi Associates Inc.