DEEP DIVE: Stocks Discounting Earnings Recovery

The stock market discounts earnings over the next 52 weeks. How do we know this? Most industry analysts provide earnings estimates for the current year and the coming year. They might provide earnings estimates or earnings growth forecasts beyond that period, but investors aren’t likely to have as much confidence in earnings forecasts beyond the next 52 weeks.

Of course, industry analysts don’t forecast earnings on a 52-week-ahead basis. They forecast quarterly and total-year earnings for the current year and the coming year. However, forward earnings, which is the 52-week time-weighted average of the analysts’ consensus estimates for the current and coming year (updated weekly), is actually a very good leading indicator of actual earnings over the coming four quarters (Fig. 1 and Fig. 2).

Joe and I have the data for forward earnings monthly from September 1978 and the weekly data from March 1994. The monthly series divided by the CPI is a good leading indicator of the business cycle during economic expansions. Real forward earnings is a good coincident indicator of the business cycle during recessions (Fig. 3). It is highly correlated with both the Index of Leading Economic Indicators (especially during good times) and the Index of Coincident Economic Indicators (especially during bad times) (Fig. 4 and Fig. 5).

Industry analysts tend to be optimistic about their companies during economic expansions. Collectively, they don’t see recessions coming. When their companies confirm that a recession is underway, the analysts scramble to cut their earnings estimates.

Real forward earnings peaked at a record high during May 2022, falling 8.0% through April, which was the first month the series rose since the peak. It is still 17.5% above its pre-pandemic record high. Might April have been the bottom for real forward earnings? Joe and I think so because the weekly series for nominal forward earnings bottomed during the February 9 week and is up 1.8% since then through the May 18 week (Fig. 6). The weekly series for forward earnings (currently at $229.94 per share) is converging toward the analysts’ consensus earnings estimate for 2024 (currently $245.73), as always happens as a year progresses. Analysts’ consensus estimate for 2024 has been falling, but it remains well above their consensus for 2023 ($220.07). (We expect to be updating our earnings forecast in the next few days after the Q1-2023 results are compiled by Standard & Poor’s for the S&P 500.)