Earnings Season Showdown: Tech Titans Slow, Stock-Pickers Thrive as Margins Squeeze

The onset of the new U.S. earnings season is poised to test the resilience of the stock market's strong upward trajectory this year. Current predictions suggest that companies listed on the S&P 500 will report their weakest earnings in the last four quarters, with third-quarter profits expected to increase by only 4.3% year-over-year. However, this conservative forecast may provide room for unexpected improvements that could buoy investor confidence, similar to the first quarter, when earnings surpassed initial expectations.

Baird’s investment strategist Ross Mayfield notes that analysts have significantly lowered earnings-per-share forecasts, which may lead to a higher probability of positive surprises, potentially enhancing market performance. As the earnings season unfolds, several key themes are emerging that investors should closely monitor:

First, the deceleration of earnings growth among major technology giants. These tech behemoths continue to be major contributors to the S&P 500’s profit growth, anticipated to rise by 18% this quarter. While still substantial, this marks a slowdown from previous years' over 30% growth, reflecting challenges even industry leaders face.

Additionally, the remainder of the S&P 500, outside these tech giants, is expected to see a modest 1.8% profit increase. However, projections suggest a significant acceleration in earnings growth momentum, potentially hitting double digits by early 2025.

Second is the notion of a "stock-picker's paradise." Individual stock volatility is on the rise, creating opportunities for discerning investors. Despite relatively stable index-level implied volatility, the increased movement in individual stocks suggests a ripe environment for selective investment approaches.

Among the S&P 500's sectors, technology, communication services, and healthcare are projected to see profits grow by over 10%, contrasted by an over 20% decline in the energy sector, largely attributable to last quarter's drop in oil prices.

Thirdly, margins remain a critical focal point. Analysts are watching as profit margins are expected to dip slightly to around 12.9% this quarter, driven by persistent wage pressures in less automated industries. Moving forward, margins for energy and real estate stocks may rebound in subsequent quarters.

Across the Atlantic, Europe's earnings season may highlight a turning point for the STOXX Europe 600 Index, with adjusted forecasts amid sluggish economic growth. Any indications of weakening consumer demand could prompt further revisions, impacting stock prices.

Finally, with the U.S. elections on the horizon, corporate leaders are likely to discuss economic policy risks and other political concerns during earnings calls. Historically, business investments accelerate post-election, potentially catalyzing capital deployment, especially if interest rates decline. However, political uncertainty might delay traditional capital commitments, even as AI-related investments remain undeterred.