by Krystal Daibes Higgins, CFA
Vice President
Equity Research
It was quiet this week for the S&P 500 on a total return basis. However, much was happening beneath the surface as third quarter earnings seasons continue to unfold. With about 20% of companies having reported their results so far, a clearer picture of the market's trajectory is emerging. Analysts have adjusted their expectations downward by approximately 4%, a slightly larger reduction than we’ve typically seen in recent quarters. This trend reflects broader market challenges, with nine out of eleven sectors experiencing cuts in growth projections. The energy sector has faced the most substantial decline, largely due to falling oil prices, with estimates dropping by around 20%. Other sectors, such as industrials and materials, have also seen significant reductions of 8-9%. In contrast, the information technology sector has been a bright spot, with a modest increase of 0.3% in growth estimates. Despite these positive signals from tech, the overall growth rate for the S&P 500 has decreased from an initial 8% on June 30 to just 3% today. This decline is partly due to continued revisions in the energy sector and disappointing guidance from companies such as Boeing. The current scenario raises concerns about whether the market can sustain its momentum without robust earnings growth. The S&P 500, after all, is trading at 21 times earnings, which is high relative to historic levels.
Looking ahead, there's a notable focus on the "Magnificent Seven" tech giants, which are expected to drive significant earnings growth—around 18%—while the remaining 493 companies are projected to see flat or slightly declining earnings. This disparity raises questions about the sustainability of overall market growth. Contributions from sectors such as healthcare, industrials, materials and financials will be essential for supporting broader S&P 500 growth targets of 13-15% in upcoming quarters. As discussions continue about whether or not these top-performing tech companies can sustain their momentum amid tougher comparisons and economic normalization, it becomes clear that while they will remain crucial for market sentiment, they will need the support of broader participation in earnings contribution from the remaining companies. In our view, the current expected earnings growth rate of 15% for the broad market for next year will likely be too high of a hurdle for the S&P 500 to clear.
Given the lofty earnings growth expectations and higher valuations, we believe a shift towards a more defensive sector posture may be warranted. While maintaining overall equity allocations, we are making strategic adjustments to client portfolios, including:
Trimming Cyclical Exposure: We have reduced positions in certain cyclical sectors that have seen strong performance, taking profits where appropriate
Increasing Defensive Holdings: We are adding more defensive sectors, including utilities, real estate and consumer staples. These sectors typically offer more stability during periods of market uncertainty
Selective Approach: We continue to emphasize the importance of being selective in investments, focusing on companies with strong fundamentals and sustainable growth prospects
While the market outlook remains positive overall, we believe a cautious and selective approach is prudent. By strategically adjusting portfolios slightly to favor defensive sectors while maintaining exposure to high-quality growth opportunities, we aim to navigate the potential volatility and capitalize on market trends in the coming year.
Takeaways for the Week
The S&P 500's overall growth outlook has declined from 8% to 3% since June of this year, with significant earnings cuts in nine of eleven sectors, particularly in energy; however, the tech sector shows resilience with a projected growth increase of 0.3%
In response to market uncertainties, we favor a shift towards defensive sectors such as utilities and consumer staples, while still maintaining investments in select companies with strong growth opportunities to navigate potential volatility