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 1. Home
 2. Markets
 3. Need to Know


NEED TO KNOW




THE MARKET IS TOO OPTIMISTIC ABOUT CORPORATE EARNINGS FOR 2023. HERE’S WHY.

Last Updated: Nov. 23, 2022 at 6:47 a.m. ET First Published: Nov. 23, 2022 at
6:42 a.m. ET
By

JAMIE CHISHOLM

  comments


CRITICAL INFORMATION FOR THE U.S TRADING DAY.

IT’S ALWAYS SUNNY ON WALL STREET?

Getty Images/iStockphoto
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REFERENCED SYMBOLS


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SPX
+0.59%
ES00
+0.28%
TMUBMUSD10Y
3.700%
CL.1
-0.33%
CSGN
-1.16%
AAPL
+0.59%
JWN
-4.24%
MANU
+25.84%
TSLA
+7.82%
GME
+1.52%
AMC
+4.37%
NIO
+5.49%
AMZN
+1.00%
COSM
-2.29%
MULN
-10.01%
APE
-3.97%
TSM
-0.69%

After several attempts this month the S&P 500 SPX, +0.59% has finally managed to
close above the 4,000 level. Happy Thanksgiving! Bulls will now want to see that
barrier become support and will be eyeing the next hurdle, the 200-day moving
average, currently around 4,062.

But for the market to extend its rally into next year, at least one of two
things will probably need to happen. Corporate earnings will have to rise or the
multiple applied to earnings will have to increase. The latter may occur if
investors become more optimistic, say, in anticipation of a Fed pivot.

However, anyone hoping for earnings growth even managing to be flat for 2023 “is
very naïve”, according to Peter Ganry, head of equity strategy at Saxo Bank.


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Ganry notes that the 12-month forward earnings per share estimate on the S&P 500
is currently at $235.34 which is 7% above the expected full-year 2022 EPS of
$219.38. That’s too high, he reckons.

“There is nothing unusual in this divergence conflicting with reality as
sell-side analysts have a natural long bias…and are slow to react and
incorporate new information. The fact that the 12-month forward EPS estimate on
S&P 500 is only 4% from its recent peak despite the ongoing margin compression
says it all.”

And indeed it is over-optimism on corporate margins that may trip up investors.
It’s important. As the chart below shows looking over a short time period such
as one year, the changes in earnings are strongly associated with changes in the
operating margin.



Source: Saxo Bank.

“If you take EPS of $220 next year and divide with the expected revenue per
share of around $1,800 which fits pretty well with a 1-year lag in US nominal
GDP growth, then you get a net profit margin of 12.2% which exactly where the
12-month trailing net profit margin stood at in September,” Ganry says.

That implies that S&P 500 companies can maintain their net profit margin next
year. That’s “a completely detached assumption” for several reasons.

First, companies have been constantly talking about margin pressures in their Q3
earnings reports, particularly regarding wage pressures and also commodities and
energy costs. Indeed, the growth of wages – typically the biggest cost for many
companies – in the U.S. and Europe is running at its fastest pace in many
decades.

“High wage growth is difficult to offset in an inflationary environment when
recent price hikes by companies have now reached a point where they are
destructive for volume growth (Home Depot being a recent example of this),”
Ganry notes.



Next: “The operating and net profit margin are both coming off historically high
levels and margins are a mean reverting process, so this alone indicates that
margins will trend down from current levels,”


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 Ganry adds: “The fact that the Q3 net profit margin in S&P 500 is 11.9% (below
the 12-month trailing figure) and trending lower suggests that margins are
coming down faster than expected”.


Source: Saxo Bank.

Another downside risk to earnings per share in 2023 is that revenue growth could
be lower than current estimates as nominal GDP growth is coming down to 6.7%
annualised in Q3, down from the average 12.2% annualised in 2021.


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Finally, the move higher in interest rates as the Fed continues to fight
inflation will force up corporate financing costs. “Not by much because only 20%
of the outstanding debt is getting refinanced over the next 12 months, but it
will still subtract from operating income before we reach EPS impacting the net
profit margin.”

“If we are right about our operating margin call for 2023 then the impact on S&P
500 will vary depending on the equity risk premium (P/E ratio), revenue growth
and the actual net profit margin,” says Ganry. The S&P 500 is sensitive to these
variables.

MARKETS



Markets are going into the holiday break on a subdued note. S&P 500 futures
ES00, +0.28% are slightly, with benchmark 10-year Treasury yields TMUBMUSD10Y,
3.700% barely changed at 3.754%. Oil CL.1, -0.33% is again under pressure ,
however, as worries about soft China demand as Beijing implements more COVID-19
lockdowns.


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For more market updates plus actionable trade ideas for stocks, options and
crypto, subscribe to MarketDiem by Investor’s Business Daily.

THE BUZZ

Credit Suisse stock CSGN, -1.16% slumped 5% to hover near record lows after the
embattled Swiss bank delivered the latest in a long line of miserable trading
updates.

Shares in Apple AAPL, +0.59% are a fraction softer in premarket trading as news
emerges that workers at China’s biggest iPhone factory were beaten and detained.

A surprise quarterly loss revealed after the closing bell on Wednesday, has hit
Nordstrom shares JWN, -4.24%, down nearly 10%.

With markets shut on Thursday for Thanksgiving and everyone apparently going
shopping on Friday, it seems all the week’s economic data has been crammed into
Wednesday. So, taking a deep breath…here goes….

At 8:30 a.m. Eastern we have the weekly initial jobless claims alongside October
durable goods orders. At 9:45 a.m. come the November S&P flash U.S.
manufacturing PMI and services PMI. Then at 10 a.m. the October new home sales
report is delivered at the same time as the November University of Michigan
consumer sentiment index and 5-year inflation expectations. Finally, at 2 p.m.
the minutes of the Federal Reserve’s recent rate-setting meeting will be
published.


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Ronaldo’s out and now the Glazers may be departing Manchester United too. The
U.S owners of the English Premier League football giants, who also own the Tampa
Bay Buccaneers, say they are exploring options which may include a sale of the
club. United’s shares MANU, +25.84% jumped 15% late on Tuesday and are adding
another 11% in Wednesday’s premarket action.

BEST OF THE WEB

How retailers are reshaping the advertising industry.

Investor home purchases fall 30% amid rising interest rates.

Five things not to buy on Black Friday.

THE CHART

Consider this from Bespoke Investment if you come back from Thanksgiving and
fancy a spot of trading into the New Year.

“The S&P 500 has risen from the close on the Wednesday before Thanksgiving
through the end of the year roughly three-quarters of the time with an average
gain of 1.93%. When momentum has been dragging the index lower year to date,
though, rest-of-year performance has been less positive. Again looking at years
in which the index has fallen at least 10% headed into Thanksgiving week as is
the case this year, positive returns through the end of the year have been less
common only happening half the time with an average decline of 0.1%,” says
Bespoke.


Source: Bespoke Investment.


TOP TICKERS

Here were the most active stock-market tickers on MarketWatch as of 6 a.m.
Eastern.

Ticker Security name TSLA, +7.82% Tesla GME, +1.52% GameStop AMC, +4.37% AMC
Entertainment NIO, +5.49% NIO AAPL, +0.59% Bed Bath & Beyond AMZN, +1.00%
Amazon.com COSM, -2.29% Cosmos Holdings MULN, -10.01% Mullen Automotive APE,
-3.97% AMC Entertainment preferred TSM, -0.69% Taiwan Semiconductor



RANDOM READS

T. Rex auction cancelled – is it actually a 20th Century Boy?

Smelly cat caught in a bag.

A LOT of extra incentive to win the World Cup.

Need to Know starts early and is updated until the opening bell, but sign up
here to get it delivered once to your email box. The emailed version will be
sent out at about 7:30 a.m. Eastern.

Listen to the Best New Ideas in Money podcast with MarketWatch reporter Charles
Passy and economist Stephanie Kelton


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SON. WHAT HAPPENS TO HIS $10 MILLION ESTATE?

‘MY ELDERLY RELATIVE DETERMINED SHE COULD NO LONGER CARE FOR HERSELF’: ARE HER
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READ NEXT


READ NEXT


BARRON'S: TOM BRADY, STEPH CURRY, AND KEVIN O’LEARY SET TO LOSE BIG FROM FTX
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Ex-FTX CEO Sam Bankman-Fried lost his entire $16 billion fortune in less than a
week after his company filed chapter 11 bankruptcy protection on Friday.


MORE ON MARKETWATCH

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 * Barron's: Stocks Have Already Bottomed. How We Know.


ABOUT THE AUTHOR

Jamie Chisholm


Jamie Chisholm is a markets reporter based in London.



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