Earnings Surprises Are Foretelling a Stock Market Crash
If you own stocks, you might what to read this: the stock market could disappoint in 2018. Don’t get too complacent just yet. There are developments suggesting that a stock market crash is still a possibility this year.
Go back to late 2016 and 2017…
No matter what companies did, their stock prices increased; earnings didn’t really matter to investors. This was mainly because investors were optimistic about the U.S. economy and believed that everything would be just fine.
We are now seeing investor sentiment change. Remember, sentiment is one of the key things that drive the stock market higher or lower. If investors are optimistic, they buy and the stock market soars. If they are pessimistic, we face a stock market crash.
How do we see investor sentiment changing?
Usually, Wall Street analysts provide earnings estimates. If companies beat those estimates, their stock prices rise. The difference between what the analysts were expecting and what the company actually report is called a surprise. A positive surprise is when a company reports earnings higher than analysts were expecting, and a negative surprise is when a company reports lower than what was expected. In normal markets, the bigger the surprise, the bigger that the swing in a stock price could be.
Companies posting positive surprises are getting punished by investors. It tells us that investors are anything but optimistic and that the stock market could face a lot of headwinds.
Fourth-Quarter Earnings: Investors Selling Companies With Solid Earnings
To get some perspective, consider this: during the fourth-quarter 2017 earnings season, S&P 500 companies that reported positive earnings surprises actually witnessed a decline of 0.2% on average in the four-day period (two days before and two days after earnings date). (Source: “Earnings Insight,” Factset, March 9, 2018.)