Despite concerns about higher interest rates and their potential impact on corporate earnings, first-quarter earnings have come in strong, with 78% of companies reporting positive results that have exceeded expectations by a significant margin of 9.5%. This is well above the long-term average of 4.2% and the average of 7% for the previous four quarters.
Notable earnings beats have been reported by major companies across various sectors, including Alphabet, Meta, Netflix, Goldman Sachs, JPMorgan Chase, GE Aerospace, Caterpillar, and Microsoft.
One key factor supporting these strong earnings is the resilience of the consumer. Despite concerns about inflation and economic headwinds, consumer spending has remained relatively stable across all segments, from low to high spend. Visa’s CFO, Christopher Suh, noted that their data does not indicate any meaningful behavior change across consumer segments. American Express’ CEO, Stephen Squeri, echoed this sentiment, stating that consumer spending remains relatively strong.
Another key contributor to the strong earnings performance is the high net profit margins, which currently stand at approximately 11.5%. This is the percentage of profit a company produces from its total revenue. According to FactSet, analysts anticipate that net profit margins will remain above 12% for the remaining three quarters of the year.
While earnings are up, the S&P 500 has come off its highs. This is primarily due to a contraction in the multiple (P/E ratio), which represents what investors are willing to pay for a future stream of cash flow. As interest rates rise, investor risk appetite tends to decrease, leading them to pay less for that future stream.
At its peak in April, the S&P 500 P/E ratio for 2024 earnings was about 21.6, which was historically high. Today, a month later, 2024 earnings estimates remain largely the same, but the multiple has declined to 20.8.
One potential catalyst for a decline in earnings could be if the consumer starts to face significant challenges. In October of last year, when 10-year yields rose above 5%, the markets experienced a downturn. The S&P 500 fell to a low of 4,117 on October 27 and only recovered when rates came down in early November.
Higher oil prices are also contributing to the strong earnings performance. Energy companies, such as Marathon Petroleum, Apache, Valero Energy, and Exxon Mobil, have benefited from the recent spike in oil prices, leading to higher profits.
While overall earnings estimates are positive, it’s important to note that the energy sector is a major contributor to this improvement due to increased geopolitical risk. Some companies, such as Bristol Myers Squibb, are facing large declines in earnings estimates due to one-time charges or other factors, which are weighing on their respective sectors.
Despite some concerns, most corporate commentary has emphasized the resilience of the consumer. Tractor Supply’s CEO, Hal Lawton, noted that their customer base remains healthy and engaged. Chipotle’s CEO, Brian Niccol, stated that the company is not seeing any consumer pullback. D.R. Horton’s CEO, Paul Romanowski, said that homebuyer demand during the spring selling season has been good despite continued affordability challenges. Kimberly-Clark’s CEO, Michael Hsu, commented that the consumer environment remains resilient, especially in North America.
Overall, the market is positioned for a still-strong jobs market and a slowing but still-strong consumer. Profit margins are expected to remain resilient. While there have been some concerns expressed about the consumer, most of the corporate commentary has emphasized resilience.
