As the third quarter earnings season draws to a close, attention shifts to the outlook for the coming year. A prevalent theme across industries is a return to normalcy. The COVID pandemic wrought widespread disruption in supply chains and labor markets, coupled with enduring shifts in consumer preferences that have shaped multi-year trends. With more than 80% of companies having reported third quarter results, it appears that S&P 500 earnings have returned to growth for the first time after a year of decline. The consumer discretionary sector was a third quarter standout where many companies beat expectations, benefitting from a resilient consumer.
Perhaps the biggest surprise is the optimistic forecast for 2024 earnings, analysts predict robust 12% growth. With investor’s focus overwhelmingly on geopolitics and the Fed maneuvering a soft landing, the bedrock of equity returns – the fundamentals – might seem relegated to the back seat. However, the 2024 outlook from a fundamental perspective is the brightest it’s been in years. Over time, fundamentals, like earnings and cash flow growth, are what drive equities higher, which bodes well for markets over the next 12 months.
Next year, increased productivity will be a major driver of earnings growth. The shift toward stable economic conditions, away from the erratic fluctuations witnessed over recent years, enables businesses to streamline their expense structures. Earnings are anticipated to grow at twice the rate of sales over the next twelve months as corporate margins improve. While artificial intelligence holds immense potential for revolutionizing productivity, akin to the dawn of electricity, the benefit is likely years away. While some companies are already harnessing the powerful potential of AI, next year’s productivity gains stem primarily from cost control.
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Equity earnings are poised to accelerate as the challenges faced by certain sectors begin to ease. Earnings for the energy sector fell more than 20% in 2023 as drillers contended with lower oil prices. Without this drag, reported earnings growth for the third quarter would have been 5% higher. Lower energy prices rippled through the materials sector as well, where earnings fell by a similar amount in 2023. The drag of these sectors is expected to dissipate in the coming year as both are slated to return to modest growth.
Both the healthcare and financial sectors saw profit declines this year as well, and both sectors are poised to rebound in 2024. As the massive fiscal stimulus that was injected into the healthcare system during the peak of the pandemic receded, the sector grappled with the inevitable decline. However, with the world returning to normal, the healthcare sector is expected to outperform the broader market with above-average growth next year. Likewise, the financial sector went through a shock as interest rates rose and, it too, is expected to return to a healthy growth rate.
The outlook for fundamental growth in 2024 shines bright as companies optimize their operations and enhance their margins. The S&P 500 is poised for a return to double-digit earnings growth, and the forecast is even brighter for small caps. Small cap earnings took a material hit in 2023, causing their stocks to lag significantly behind large caps. However, analysts anticipate a sharp rebound in small cap profitability in 2024, which positions the asset class for outperformance compared to its larger counterparts. With business regaining their footing and fundamentals experiencing a significant boost, the equities landscape in 2024 looks exceptionally promising.
For more of Jake’s thoughts click here: https://www.carsongroup.com/insights/blog/author/jbleicher/