PRACTICAL PORTFOLIO - Digesting Corporate Profits

You need to go beyond the headlines to interpret a company’s earnings.

- Ryan Ermey

STOCK INVESTORS OF ALL STRIPES CARE about corporate earnings. Lovers of fast-growing firms prefer profits growing at a high, compounding rate, for example, and those looking for undervalued names may covet firms whose stock prices look cheap in comparison to earnings per share. Lately, the earnings picture for the broad stock market has been cloudier than ever, frustrating professional and armchair analysts alike.

Given the dire economic circumstances of the pandemic-induced recession, the expectations for corporate profits for the second quarter were beyond bleak. And yet, by early August, with close to 90% of S&P 500 companies having reported earnings for the quarter than ended in June, nearly 82% of them had exceeded Wall Street’s dismal expectations, by an average of nearly 18%, according to investment research firm Refinitiv— the highest “earnings beat” percentages since Refinitiv began tracking earnings data in 1994.

But exceeding such a low bar isn’t much to celebrate, and the market responded to the better-than-expected quarter with a collective shrug. When reports are all in, profits for the quarter still are expected to have declined by 33.9% from the same quarter a year ago, per Refinitiv. “That kind of collapse in S&P 500 earnings is not going to turn bears into bulls, especially at high stock valuations and given ongoing COVID-19 uncertainty,” says Jeff Buchbinder, a market strategist at investment research firm LPL Financial.