# Analysis-As earnings support U.S. stock rebound, worries over future profits grow
Author:  Pal Sinha, Barnali 
Author URL: https://financedigest.com/author/pal-sinha-barnali
Published: 2022-08-17
Category: INVESTING
Category URL: https://financedigest.com/category/investing
Meta Title: Risks Loom as Strong Q2 Earnings Lift U.S. Stocks: Analysts
Meta Description: Discover the challenges ahead as inflation and changing consumer spending habits impact stock market gains despite robust profits.
URL: https://financedigest.com/analysis-as-earnings-support-u-s-stock-rebound-worries-over-future-profits-growhtml

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By Lewis Krauskopf

NEW YORK (Reuters) – Stronger-than-expected corporate earnings have helped fuel the rebound for U.S. [stocks but some investors](https://www.financedigest.com/influx-of-one-time-investors-swapping-stocks-for-bricks-and-mortar-reports-agency.html "Influx of ‘one-time’ investors swapping stocks for bricks and mortar reports agency") are pointing to potential risks ahead for profits that could sap the market’s momentum.

With the vast majority of S&P 500 companies reported, second-quarter earnings are [expected to have climbed 9.7% from a year earlier](https://www.financedigest.com/portuguese-airline-tap-swings-to-profit-earlier-than-expected.html "Portuguese airline TAP swings to profit earlier than expected"), well above the 5.6% estimated on July 1, according to Refinitiv IBES. The robust profits have supported a rally that has taken the S&P 500 up about 14% this quarter, after a brutal first half.

Some [market participants are growing](https://www.financedigest.com/how-marketing-helps-law-firms-grow.html "How Marketing Helps Law Firms Grow") concerned, however, that strong corporate numbers may not last, as companies face an array of challenges, including surging inflation and changing consumer spending habits. These may make it difficult for [stocks to hold their recent gains](https://www.financedigest.com/stocks-mixed-dollar-gains-after-robust-inflation-jobs-data.html "Stocks mixed, dollar gains after robust inflation, jobs data") or rise further, they said.

There is some downside to earnings going forward and it’s revolving around [inflation and the ability of companies to pass on those rising](https://www.financedigest.com/oil-rises-about-2-with-u-s-and-china-inflation-in-focus.html "Oil rises about 2% with U.S. and China inflation in focus") costs,” said Paul Nolte, portfolio manager at Kingsview Investment Management.

I would think the next leg (higher) is going to be a [little bit harder” for stocks](https://www.financedigest.com/stocks-dollar-little-changed-as-inflation-data-sends-mixed-signals.html "Stocks, dollar little changed as inflation data sends mixed signals"), he said.

Analysts’ estimates for full-year [profit growth have edged lower](https://www.financedigest.com/ford-posts-lower-profit-issues-downbeat-outlook-shares-drop.html "Ford posts lower profit, issues downbeat outlook; shares drop") since the start of July, but still call for solid growth — 8% in both 2022 and 2023, according to Refinitiv.

Strategists at fund [management giant](https://www.financedigest.com/exclusive-crypto-giant-binance-moved-400-million-from-u-s-partner-to-firm-managed-by-ceo-zhao.html "Exclusive-Crypto giant Binance moved 0 million from U.S. partner to firm managed by CEO Zhao") BlackRock, however, are among those who believe the market’s views are overly optimistic.

One reason is a shift in [consumer spending from goods to services](https://www.financedigest.com/best-paying-jobs-in-finance-consumer-services.html "Best Paying Jobs in Finance Consumer Services") that they believe will weigh on S&P 500 profits.

While goods make up less than a third of gross domestic product, earnings tied to goods are [expected](https://www.financedigest.com/universal-music-q3-earnings-beat-expectations-streaming-growth-slows.html "Universal Music Q3 earnings beat expectations, streaming growth slows") to account for 62% of S&P 500 earnings this year, BlackRock said.

This means a [boom in services](https://www.financedigest.com/euro-zone-services-booming-but-sentiment-recovery-may-have-stalled-ecbs-lane.html "Euro zone services booming but sentiment recovery may have stalled -ECB’s Lane") doesn’t power S&P 500 earnings as much as it does the economy,” they wrote on Monday.

Overstocked inventories at [companies such as retailers and semiconductor manufacturers show that such a trend](https://www.financedigest.com/mastering-the-2016-company-logo-design-trend.html "Mastering The 2016 Company Logo Design Trend") is already underway, they said.

The risk of disappointing earnings is one reason we’re tactically underweight [stocks](https://www.financedigest.com/mutual-funds-vs-stocks-which-is-better.html "stocks"),” BlackRock said.

![](https://www.globalbankingandfinance.com/wp-content/uploads/2022/08/chart-1.jpg)

Earnings [expectations are “remarkably strong” given headwinds such as slowing](https://www.financedigest.com/dollar-set-for-weekly-loss-amid-expectations-fed-will-slow-hikes.html "Dollar set for weekly loss amid expectations Fed will slow hikes") growth in China and an inverted U.S. [Treasury yield](https://www.financedigest.com/wall-street-stocks-power-higher-as-treasury-yields-and-dollar-ease.html "Wall Street stocks power higher as Treasury yields and dollar ease") curve, which often precedes a recession, said Jack Ablin, chief investment officer at Cresset Capital.

He [remains “slightly underweight” equities](https://www.financedigest.com/eurozone-equity-rally-remains-on-but-ecb-set-to-change-monetary-policys-direction-of-travel.html "Eurozone equity rally remains on – but ECB set to change monetary policy’s direction of travel"), despite the recent rebound. Nolte, of Kingsview, has been adding to [stock positions](https://www.financedigest.com/oil-stocks-thrust-london-shares-to-positive-2023-start.html "Oil stocks thrust London shares to positive 2023 start") in portfolios he manages although he is still below his benchmark allocation.

Morgan Stanley’s strategists, meanwhile, are focused on the prospect of weakening [profit margins](https://www.financedigest.com/inflation-boosts-jeronimo-martins-q4-profit-but-dents-margins.html "Inflation boosts Jeronimo Martins’ Q4 profit but dents margins"). Overall analyst estimates call for companies’ [operating margins](https://www.financedigest.com/ubisoft-vows-to-get-back-to-operating-margin-above-20-in-medium-term.html "Ubisoft vows to get back to operating margin above 20% in medium term") at all-time highs next year, they noted.

The combination of sustained, [higher wage costs and slowing end market/consumer pricing loudly signals margin](https://www.financedigest.com/maserati-aims-at-driving-margins-higher-before-any-spin-off-talk.html "Maserati aims at driving margins higher before any spin-off talk") pressure, which is at odds with optimistic consensus estimate,” they wrote Monday.

The firm believes downward earnings revisions are going to accelerate over the next two months, based on historical [data going back](https://www.financedigest.com/dollar-advances-as-strong-u-s-data-backs-higher-rates-backdrop.html "Dollar advances as strong U.S. data backs higher rates backdrop") to 1996.

At the same time, rising valuations could [set a higher](https://www.financedigest.com/londons-ftse-100-edges-higher-set-for-fourth-weekly-gain.html "London’s FTSE 100 edges higher, set for fourth weekly gain") bar for earnings to come in strong enough to justify the elevated prices. The forward price-to-earnings estimate for the S&P 500 has risen to about 18 times after falling below 16 times in June, according to Refinitiv Datastream. The ratio is still well below the [nearly 22 times level reached at the start of the year](https://www.financedigest.com/cepsa-to-nearly-double-investments-over-next-3-years-as-profit-soars.html "Cepsa to nearly double investments over next 3 years as profit soars").

For now, however, [companies have continued](https://www.financedigest.com/different-employee-engagement-outcomes-for-u-s-and-canadian-companies-amidst-continued-economic-growth-pressures.html "DIFFERENT EMPLOYEE ENGAGEMENT OUTCOMES FOR U.S. AND CANADIAN COMPANIES AMIDST CONTINUED ECONOMIC GROWTH Pressures") to show better-than-expected strength in earnings. Walmart on Tuesday nudged up its annual profit forecast, partly reversing a hefty cut less than a month ago, while Home Depot’s quarterly [sales surpassed estimates after demand from builders and higher prices helped it cushion a hit from dwindling store visits](https://www.financedigest.com/ikea-stores-owner-ingka-says-campaigns-help-boost-store-visits-and-sales.html "IKEA stores owner Ingka says campaigns help boost store visits and sales").

Indeed, some [market watchers believe the upbeat earnings](https://www.financedigest.com/tech-earnings-hit-pause-button-on-market-rally.html "Tech earnings hit pause button on market rally") trends will continue.

Citi strategists said in an Aug. 12 note that earnings revision trends had improved so far in [August versus the previous month](https://www.financedigest.com/august-the-most-popular-month-to-start-a-holiday-home-search-reveals-portal.html "AUGUST THE MOST POPULAR MONTH TO START A HOLIDAY HOME SEARCH REVEALS PORTAL").

“The stabilization in revisions is encouraging,” Citi said in the note. However, 2023 estimates have not worked [lower in tandem so there may still be some risk to out year](https://www.financedigest.com/spains-inflation-to-be-lower-this-year-than-in-2022-minister.html "Spain’s inflation to be lower this year than in 2022 -minister") estimates.

(Reporting by Lewis Krauskopf; Editing by Ira Iosebashvili and Richard Pullin)


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