DEFYING GRAVIT Q3'S UNEXPECTED ASCENT
THE POWER OF LOW EXPECTATIONS
The third quarter earnings season of 2024 has commenced with companies surpassing conservative analyst projections.
Estimates for Q3 had been lowered, with profits expected to be the lowest in four quarters. This reduced bar has created an environment where positive surprises are driving market optimism. Companies clearing these modest hurdles are seeing their stocks rewarded, contributing to overall market strength.
BANKS SET THE TONE
Big banks have kickstarted the earnings season on a decidedly bullish note. JPMorgan and Wells Fargo rallied on reports demonstrating evidence of a soft economic landing and their ability to navigate falling interest rates. This strong performance propelled the KBW Bank Index to its highest level in over two years, simultaneously driving the S&P 500 to fresh record highs.
The banking sector's positive momentum is serving as a potential indicator for broader market strength.
2025: THE PROFIT ACCELERATION EQUATION
While Q3 2024 results are still rolling in, attention is already shifting to the prospects for 2025. Projections indicate a potential re-acceleration to double-digit profit growth next year. This anticipated pickup appears increasingly achievable, with company guidance trending more optimistic than analyst forecasts.
Profit margins are also expected to increase, further supporting the outlook for stronger earnings growth in the coming year.
KEY FACTORS SHAPING THE SEASON
ECONOMIC TIGHTROPE: WALKING THE LINE
The earnings season is unfolding against a complex economic backdrop. Despite earlier concerns about a potential recession, recent data suggests a soft landing scenario.
Banks' performances indicate resilience in the face of changing interest rates, with the Federal Reserve having implemented its first rate cut in over four years, reducing rates by 50 basis points. This economic context is influencing corporate performance across sectors.
BEYOND THE MAGNIFICENT SEVEN
While the banking sector has started strong, performance across the S&P 500 is expected to vary significantly. The so-called "Magnificent Seven" tech giants continue to exert outsized influence on index performance.
However, there's growing interest in whether profit growth will extend beyond these top performers to the broader market, often referred to as the "S&P 493". The potential for a rotation away from tech dominance hinges on the relative strength of other sectors' earnings reports.
THE INTERNATIONAL EARNINGS EFFECT
Earnings reports are reflecting the impact of global economic challenges. Luxury brands, for instance, have reported softening demand, particularly in China. This trend highlights the ongoing influence of international markets on corporate performance.
Companies across various sectors are navigating these global headwinds, with their ability to do so successfully becoming a key differentiator in market performance.
DECODING THE FINANCIAL SECTOR'S PERFORMANCE
INTEREST INCOME BONANZA: BANKS BEAT THE ODDS
Several major banks have reported net interest income (NII) that exceeded analyst estimates. U.S. Bancorp posted $4.14 billion in NII for Q3, surpassing projections of $4.04 billion. This outperformance is attributed to the bank's fixed-rate assets benefiting from higher borrowing costs.
Similar beats were seen at PNC Financial Services Group and JPMorgan Chase, indicating a sector-wide trend of banks effectively managing their interest-earning assets in a changing rate environment.
TRADING DESK MAGIC: VOLATILITY'S SILVER LINING
Investment banks have seen unexpected strength in their trading divisions. Goldman Sachs reported a surprise increase in equity-trading revenue, contributing to a 45% surge in profit.
Citigroup's markets unit posted its best third-quarter performance in at least a decade, driven by increased volatility across asset classes. These results suggest that market volatility, often seen as a challenge, has provided opportunities for banks with strong trading operations.
DEAL RENAISSANCE: THE RETURN OF INVESTMENT BANKING
After a prolonged slump, investment banking revenues are showing signs of recovery. Bank of America and Goldman Sachs both reported better-than-expected results in their investment banking divisions. This uptick in deal-making activity, if sustained, could provide a significant boost to banks' non-interest income in coming quarters.
The rebound is seen as a positive indicator for broader economic activity and corporate confidence.
SECTOR SPOTLIGHTS BEYOND BANKING
LUXURY'S LAMENT: HIGH-END HEADWINDS
In contrast to the strong banking results, the luxury sector has faced challenges. LVMH, a bellwether for the industry, reported disappointing sales, with fashion and leather goods revenues falling for the first time since the pandemic.
The company cited economic challenges in most of its markets, including mainland China.
This performance has raised concerns about consumer discretionary spending, particularly in high-end markets.
SILICON VALLEY STUMBLE: TECH'S TENUOUS POSITION
While not part of the early earnings reports, the tech sector has seen some concerning signals. ASML, a key supplier to the semiconductor industry, reported a significant miss on orders.
This development has sparked discussions about the sustainability of the tech sector's strong performance and its potential impact on the broader market, given the outsized influence of major tech companies on index performance.
CONSUMER SECTOR MIXED SIGNALS
The consumer sector is presenting a mixed picture. While luxury brands struggle, companies like Adidas have raised profit targets, indicating strength in certain consumer segments.
These divergent trends highlight the uneven nature of the current economic recovery and the importance of company-specific factors in determining performance. The consumer discretionary sector, which includes both luxury goods and more mainstream brands, is projected to have among the weakest Q3 earnings-per-share results.