After Stingy Second Quarter, Investors Reward Companies for Earnings -- Update

By Michael Wursthorn Features Dow Jones Newswires

Shares of companies that topped analyst earnings expectations are faring better than they did last quarter, a sign the economic and policy backdrop for stocks looks brighter than only a few weeks ago.

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About 57% of companies in the S&P 500 that reported both better-than-expected earnings and sales so far this quarter have notched a stock-price gain during the trading session that followed, according to an analysis of FactSet data through Friday. That is lower than the average going back to 2015, but it is an improvement from the 49% of companies that got a boost from topping estimates in the second quarter, according to the data.

The percentage of companies that experienced a share-price decline after missing expectations for earnings or revenue is lower than in the second quarter, the data show.

More than half of the companies in the S&P 500 reported earnings through Friday, and another 140 reports, including Apple Inc., are scheduled for this week.

After several quarters of solid growth, some analysts have said beating expectations may not be enough to keep driving stocks higher. The second quarter was the first time since 2011 in which S&P 500 companies that reported positive earnings surprises saw an average price decline over the two sessions before and after results were released, according to FactSet.

Investors have been slightly more generous with third-quarter results.

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Some analysts and investors say that is partly because the backdrop for stocks has improved, as concerns over North Korea have subsided and Republican lawmakers have made some progress toward a tax overhaul, providing some support to the market as companies report their results. And several companies endured a series of hurricanes better than feared.

As firms released their second-quarter earnings in July and August, investors were trying to gauge the impact of summer storms, escalating tensions between North Korea and the U.S., terrorist attacks in Spain and the aftermath of protests in Charlottesville, Va.

Glassmaker Corning Inc. declined 5.3% on July 26 after its results topped analysts' expectations on earnings and revenue. Chip maker Micron Technology Inc. also reported earnings and sales that exceeded expectations, but its stock slid 5.1% on June 30.

In the most recent earnings season, Corning and Micron beat sales and earnings expectations again. This time, Corning rose 6.4% in the subsequent trading session, while Micron gained 8.5%.

Insurance firm Travelers Cos.'s stock rose 2.4% Oct. 19 after the company posted sales that exceeded expectations and eked out a profit amid one of the costliest hurricane seasons on record.

While many investors say earnings are the biggest driver of stock prices over time, it is difficult to pin any one move on a single factor. However, they say they are encouraged by overall earnings growth in the S&P 500 so far this quarter, even as it is set to fall short of the double-digit gains posted in the first half of the year.

Just prior to the start of the reporting season, analysts expected earnings at S&P 500 companies to grow 4.2% from the year-earlier period, according to FactSet. The growth rate for the third quarter is now on track for 4.5%, says FactSet data through Monday's close. Excluding insurance companies, which took a hit from the summer storms, FactSet says the growth rate would jump to 7.2%.

About three-quarters of companies in the S&P 500 are reporting actual earnings per share above estimates, which is more than the five-year average, according to FactSet. Both earnings and sales figures for companies that reported are above their five-year averages, it added.

Investors' faith in the health of American companies has helped send the S&P 500 up roughly 15% so far this year. Among the biggest threats to the rally, investors and analysts say, are stretched valuations, renewed aggression from North Korea and unexpected shifts around the Federal Reserve's plans.

"Our clients are nervous," said Michael Mullaney, director of global market research for Boston Partners. "Prices have caused people consternation and they're asking when is this going to reverse."

The Fed has signaled that it is on track to raise short-term interest rates again in December, continuing its pace of increases since late 2015, and to unwind its portfolio of bonds. Investors worry that if inflation, which has remained stubbornly low, were to pick up, that could cause the central bank to speed up its efforts, jolting the market.

"Some of what's driving the markets is consistent Fed policy, which we've pretty much had over the last two years," said Larry Peruzzi, a managing director at Mischler Financial Group Inc.

Still, many expect the rally to continue past corporate earnings season through the end of this year.

"There's an upward drift in the market," said Bret Chesney, a senior portfolio manager at Alpine Global Management. "We continue to see a good economic backdrop that's a little more stimulative for earnings."

Write to Michael Wursthorn at Michael.Wursthorn@wsj.com

(END) Dow Jones Newswires

October 30, 2017 17:44 ET (21:44 GMT)