Two “Data” items today:
#1: How and why Wall Street is still underestimating US corporate earnings power.
Consider this chart, courtesy of FactSet, which shows S&P 500 actual quarterly earnings per share (solid blue) and projected earnings (shaded blue) from Q4 2019 to Q3 2022. The bar right in the middle (at $52.15/share) is Q2 2021, which is mostly in the books (89 percent of companies already having reported) even if it is still shaded as an “estimate”.
As you can see, Wall Street analysts are expecting Q2 2021 to be this year’s peak quarter for S&P earnings. They have an aggregate $49/share in their models for Q3 and $51/share for Q4. Even Q1 2022 ($51/share) is lower than what the S&P 500 just finished reporting. It is not until Q2 2022 ($54/share) that we get a positive comparison to current earnings power.
This makes no sense to us, either from a bottom-up or top-down perspective.
- The companies of the S&P just posted $52/share in earnings for Q2 2022 versus Wall Street expectations of $45/share, or $7/share better. In response to that, analysts have only raised their Q3 estimates by $1.71/share ($47.51 to $49.22/share) and Q4 by $1.40/share ($49.65 to $51.05).
- US economic output should continue to improve sequentially over the rest of 2021 and into 2022. Yet earnings estimates are still lower than what are essentially Q2 actual results.
Good news takeaway: estimates still have plenty of room to increase. Having done the Wall Street analyst job for many years, we totally understand why numbers remain low. There is still plenty of macro uncertainty, both within the analyst ranks and inside corporate America. That’s why we saw Big Tech, for example, so wary about giving future guidance even after beating Q2 by wide margins. Still, we find it near-impossible to believe that 2H 2021 earnings will average anything less than $52/share for the S&P 500 and further growth in US earnings power is a reasonable expectation.
(Sort of) bad news takeaway: stock prices know the Street is too low. At Friday’s close of 4,437 on the S&P and assuming a 20x multiple, $222/share is what the market is looking for in year-out earnings power. As the FactSet chart below of analysts’ estimates for 2021 (bottom line) and 2022 (top line) shows, Wall Street is slowly getting to that number but it’s not quite there yet (2022 at $218/share).
Bottom line: while the market has been accurately ahead of Wall Street estimates all year, this fact also means we need to see continued steady US and global economic improvement. That is the backdrop for further earnings leverage, the engine that will take S&P earnings to +$222/share and keep the equity rally alive through year-end.
#2: Given our optimistic view on US corporate earnings (and, therefore, stocks), we are happy that our cautious view regarding Friday’s Jobs Report proved wrong. We were concerned that interest in finding employment, based on Google searches, had not been growing in recent weeks.
Three points on the report:
#1: The gap to pre-pandemic US employment now stands at 5.7 million jobs, with Friday’s report showing a gain of +943,000 positions. This is notably better than the 3-month prior average of 607,000 jobs added. The largest gains came from Leisure and Hospitality (+380,000) and Government (+240,000), two areas hard-hit by pandemic layoffs.
Chair Powell often refers to the data in this chart, which shows the number of US jobs pre-pandemic (152.5 million), the trough for US employment (April 2020, 130.2 mn), and the pattern of the US labor market recovery since. While job growth was slow from October 2020 (142.5 mn) to March 2021 (144.0 mn), the more recent history is clearly better.
#2: US labor force participation (those employed or looking for work divided by the entire population) for workers aged 25 – 54 years old made another post-pandemic high in July. This is the measure we are watching most closely as a sign of general interest in returning to the workforce. The headline LFP number has been skewed by retirements over the last year, as this chart from January 2020 – present shows:
On the plus side, at 81.8 percent the LFP for 25–54-year-olds (red line, right axis) is clearly trending higher even as total LFP remains stuck at 60-62 pct (blue line, left axis). Since this age cohort is the most likely to neither be in school nor retired, that uptrend reflects more prime working-aged Americans returning to the labor force. On the downside, even 25–54-year-old LFP is still a point below pre-pandemic levels so there is still some catchup required to return the US labor force to truly pre-pandemic levels.
#3: The gap to full US employment is now entirely made up of workers with less than a college degree. This chart shows unemployment by educational attainment from January 2020 to July 2021. The bottom line (red) is joblessness among college-educated workers, with the middle (green) that of workers with either some college or a 2-year degree, and the uppermost line showing unemployment for workers whose formal education concluded with a high school diploma.
July’s Jobs Report shows that the college-educated cohort is back to essentially full employment (3.1 pct) but the other two groups are definitely not, an important nuance behind the headline 5.4 pct unemployment rate. All three groups enjoyed remarkably low levels of joblessness pre-pandemic (1.9, 3.0 and 4.1 pct), but only the non-4-year college cohorts still face labor market conditions more commonly associated with post-recessionary periods. For example, in both 1993 and 2002 these groups had unemployment rates similar to now.
Takeaway: “substantial further progress” in US labor market conditions is the Fed’s criteria for shifting monetary policy, and by our assessment July’s Jobs Report fits that bill. Employment growth was solid and participation within the demographic cohort that matters most grew noticeably. The only real caveat is in our last point – that the US economy still must make up significant ground in creating jobs for workers who did not complete college. The ongoing labor shortage may help here; we’ve seen more evidence that employers are relaxing “only BA/BS applicant” guidelines. That should help overall US labor market conditions in the months ahead.
FactSet Earnings Insight report: https://www.cmegroup.com/trading/interest-rates/countdown-to-fomc.html