As of today, the S&P 500 is expected to report earnings growth of 11.4% for the fourth quarter. What is the likelihood the index will report an actual earnings increase of 11.4% for the quarter?
Based on the average change in earnings growth due to companies reporting positive earnings surprises, it is likely the index will report earnings growth above 15% for Q4, but below the 25% growth reported in the previous three quarters.
When companies in the S&P 500 report actual earnings above estimates during an earnings season, the overall earnings growth rate for the index increases because the higher actual EPS numbers replace the lower estimated EPS numbers in the calculation of the growth rate. For example, if a company is projected to report EPS of $1.05 compared to year-ago EPS of $1.00, the company is projected to report earnings growth of 5%. If the company reports actual EPS of $1.10 (a $0.05 upside earnings surprise compared to the estimate), the actual earnings growth for the company for the quarter is now 10%, five percentage points above the estimated growth rate (10% - 5% = 5%).
Over the past five years on average, actual earnings reported by S&P 500 companies have exceeded estimated earnings by 4.8%. During this same period, 71% of companies in the S&P 500 have reported actual EPS above the mean EPS estimate on average. As a result, from the end of the quarter through the end of the earnings season, the earnings growth rate has typically increased by 3.8 percentage points on average (over the past five years) due to the number and magnitude of upside earnings surprises.
If this average increase is applied to the estimated earnings growth rate at the end of Q4 (December 31) of 12.3%, the actual earnings growth rate for the quarter would be 16.1% (12.3% + 3.8% = 16.1%).
If the index does report growth of 16.1% for Q4 2018, it will mark the first time the index has not reported earnings growth above 20% since Q4 2017. However, it will mark the fifth straight quarter of double-digit earnings growth for the index.