S&P 500 Will Likely Report a Decline in Earnings for 2nd Consecutive Quarter in Q1 2023

As of today, the S&P 500 is reporting a year-over-year decline in earnings of -6.5% for the first quarter, which would mark the largest earnings decline reported by the index since Q2 2020 (-31.6%) and the second straight quarter the index has reported a decline in earnings. Given that most S&P 500 companies report actual earnings above estimates, what is the likelihood the index will report an actual decline in earnings of -6.5% for the quarter?

Based on both the average improvement in the earnings growth rate over the past 10 years and the below-average improvement in the earnings growth rate over the past three earnings seasons, the index will likely report a year-over-year decline in earnings for Q1.

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 rate for the company for the quarter is now 10%, five percentage points above the estimated growth rate (10% - 5% = 5%).

In fact, the actual earnings growth rate has exceeded the estimated earnings growth rate at the end of the quarter in 37 of the past 40 quarters for the S&P 500. The only exceptions were Q1 2020, Q3 2022, and Q4 2022.

Over the past ten years, actual earnings reported by S&P 500 companies have exceeded estimated earnings by 6.4% on average. During this same period, 73% 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 increased by 5.3 percentage points on average (over the past ten years) due to the number and magnitude of positive earnings surprises. If this average increase is applied to the estimated earnings decline at the end of Q1 (March 31) of -6.7%, the actual earnings decline for the quarter would be -1.4% (-6.7% + 5.3% = -1.4%).

Over the past five years, actual earnings reported by S&P 500 companies have exceeded estimated earnings by 8.4% on average. During this same period, 77% 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 increased by 7.5 percentage points on average (over the past five years) due to the number and magnitude of positive earnings surprises. If this average increase is applied to the estimated earnings decline at the end of Q1 (March 31) of -6.7%, the actual earnings growth rate for the quarter would be 0.8% (-6.7% + 7.5% = 0.8%).

Over the past three quarters (Q2 2022 through Q4 2022), however, actual earnings reported by S&P 500 companies have exceeded estimated earnings by only 2.1% on average. During these three quarters, 71% of companies in the S&P 500 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 only increased by 0.8 percentage points on average (during the past three quarters) due to the number and magnitude of positive earnings surprises. If this average increase is applied to the estimated earnings decline at the end of Q1 (March 31) of -6.7%, the index would report an actual decline in earnings of -5.9% (-6.7% + 0.8% = -5.9%).

How are the numbers trending to date? Of the 30 S&P 500 companies that have reported actual earnings for Q1 2023 through April 14, 90% have reported actual EPS above the mean EPS estimate. In aggregate, actual earnings reported by these 30 companies have exceeded estimated earnings by 7.9%. Thus, at this very early stage of the earnings season for Q1, both the number of companies reporting positive EPS surprises and the magnitude of these EPS surprises are trending closer to the 5-year average. Will this strong performance continue for the rest of the earnings season? Since March 31, the earnings decline for the S&P 500 has decreased by only 0.2 percentage points (to -6.5% from -6.7%).

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