The Profit Recession Is Now Here… And The Worst Is Yet to Come

Michael Msika and Farah Elbahrawy, Bloomberg Markets Live reporter and commentators

Let the economists debate all day long about whether a recession is coming: In corporate earnings, one has already arrived, if you set aside the oil and gas industry. And the worst may not be over.

Third-quarter earnings for companies in the S&P 500 excluding energy have fallen 3.5%, based on results so far and estimates for those still to come, according to data compiled by Bloomberg Intelligence. That’s after a 1.8% drop in the preceding period, marking the first consecutive declines since 2020, when the pandemic began.

Earnings for US energy companies have gotten a boost from elevated oil prices due to tighter supply caused by Russia’s invasion of Ukraine. But the broader corporate world is feeling the pinch of raging inflation, the resultant higher interest rates from the Federal Reserve, the surging dollar and slowing demand.

“We’re very clearly seeing a slowdown in earnings growth,” Madison Faller, global strategist at JPMorgan Private Bank, told Bloomberg Television. “That said, I don’t think earnings expectations are yet fully pricing in this probability of a recession.”

Investors largely have looked past the decline in profits this earnings season, lifting the S&P 500 by 2.5% since companies started reporting in mid-October. The thinking was that the Fed’s rate increases soon will have inflation under control, allowing the central bank to slow or even end its rate hike campaign, and the economy to avoid a recession.

The Fed dashed such optimism in its latest interest rate decision Wednesday, with Chair Jerome Powell leaving little doubt that he’s prepared to push rates as high as needed to stamp out inflation. If there’s a deeper economic downturn in the offing, earnings estimates may still be too high.

A consensus estimate for 12-month S&P 500 earnings per share of $210, down from the current $232, is a level which would reflect an economic slowdown, Faller said.

The next global earnings-per-share recession is about to begin, according to Citigroup Inc. strategists led by Robert Buckland. It would be the eighth in the past 50 years. The past seven lasted two years and saw earnings fall 31%, they wrote in a note.

“We remain concerned that interest-rate-obsessed equity markets have yet to price in the true earnings impact of a full-blown economic slowdown,” they said. Analyst consensus estimates are still too high, predicting 5% global earnings per share growth in 2023 when Citi strategists forecast a 5% to 10% contraction, they added.

To be sure, analysts are already slashing their forecasts for the next couple of years — projections for 2023 earnings have fallen six straight weeks while the consensus for 2024 has dropped for 19 consecutive weeks.

The third-quarter results illustrate how bad it’s gotten. US companies typically steer analyst expectations lower in the weeks before earnings announcements, so that they then can manage to beat the lowered estimates. This quarter, though, earnings are coming in 1% below consensus, so this could be only the third time since the Great Financial Crisis that results miss expectations, according to Bank of America Corp. strategists including Savita Subramanian.

To further complicate matters, the S&P 500 is likely to lose the oil and gas earnings crutch moving into the coming quarters. Energy companies’ earnings growth will fade the next two quarters and will start to contract in the second quarter of 2023, according to analysis from Wendy Soong, a senior associate analyst at BI.

“We are still not yet at the sort of 20-30% earnings decline which usually comes with a recession,” said James Athey, investment director at Abrdn. “Recent recessions have been fleeting because of the speed with which the Fed has responded through easier policy. That’s less likely this time given the inflation backdrop.”