The earnings recession may not end this quarter but we are on the brink of robust earnings growth.

Earnings season is upon us again. Taken at face value we can expect to see a 6th quarter of negative earnings growth and the continuation of the earnings recession. Factoring in long term earnings trends and forward outlook it appears as if we are on verge of if not actually exiting said recession. We've already received 25 reports from S&P 500 companies, a half percent of the index, and so far those trends have held up, 80% have beaten EPS projections. The question is, will the index beat expectations enough to bring the expected earnings growth rate up above 0.0%? Needless to say it could be a rocky couple of weeks as reports roll in.

The blended rate of growth, the projected rate revised with current data as reports are released, is -2.1% for the 3rd quarter. This is just off the low of -2.2% but has been holding steady at this level for almost 3 months after steadily declining the entire preceding year. Since the start of the quarter 10 of the 11 S&P sectors have been revised lower but 8 are still expected to see some amount of growth. The energy sector of course leads decliners with an expected contraction of nearly -70% quarter-on-quarter, how the recent rise in oil prices will affect this is yet to be seen.


Based on the four year averages the index can be expected to beat the estimated rate of growth at the start of the season by at least +4%. If this holds true we can expect to see earnings growth in the range of 1.9% to 3% and an exit from earnings recession. Looking forward the 4th quarter is still expected to see growth in the range of 5.6%. If the 4 year average holds true into this quarter growth could exceed 10%.


Full year 2016 earnings growth blended rate is sitting just below 0.0% at -0.1%. This is just off the low but has been holding steady for nearly 3 months. It has begun to drift higher in recent weeks and may rise as high as +1% to 2% by the end of the year if earnings trends hold true.

Looking beyond 2016, full year 2017 is expected to be robust with growth in the range of 13% so there is a case to be made that we are indeed exiting the earnings recession and entering a period of protracted earnings growth. The risk is that earnings will not be as good as expected and/or forward outlook will continue to deteriorate as it has been doing over the past year.


Looking at the weekly chart of S&P 500 prices we can see that the index is in a long term, secular, up trend and has recently broken to new highs. The index has set-up a new trend built on the January low, the May low, the Brexit Bottom and subsequent bounce. It is currently in a consolidation range, moving back towards trend, and likely to move higher provided earnings outlook is matched by earnings results. The indicators are consistent with a peak within an uptrend and a possible pull back to support. Support is at the previous all time high, near 2,120, which happens to conveniently intersect the up trend line during the peak of earnings season. The index may continue to trend sideways and even move lower to test support in the near term but the long term outlook remains bullish and supported by earnings outlook.


The Index, Sector By Sector

The energy sector is expected to post the largest decline in year over year quarterly earnings and has seen the largest downward revisions to outlook, revenue and earnings. Third quarter earnings growth is expected in the range of -70% but is also expected to be the last quarter of serious decline in the sector. Next quarter is projected to be only -0.8% and could easily turn positive and next year is expected to see some once in a lifetime increases. Full year 2017 earnings outlook is expected to be in the range of 325%, more than making up for the -75% expected for all of 2016. Based on this alone it looks like the energy sector should do well next year but this of course is all dependent on oil prices and where they go from here.

Looking at the chart of the XLE Energy Sector SPDR the sector is still range bound, trading below resistance set October of last year. The indicators are showing some near term bullishness but persist in long term divergences so do not appear strong enough to break resistance at this time. Resistance is near $72 with support targets near $67.25 and the 150 day moving average.


The materials sector has seen the 2nd largest decrease in foreward outlook since the start of the quarter but has also seen those estimates rise in recent weeks. The sector is expected to see growth of 3.7% for the quarter, up from 3.5% a few weeks ago, and that growth is expected to expand into the fourth quarter. Fourth quarter growth is projected to be 17.8% and carry through into 2017. Earnings growth remains robust for 2017, about 14.7%, but expansion slows and tops off into the end of the year.

Looking to the chart of the XLB Materials Sector SPDR we can see that the ETF is still within long term trading ranges and well below the all time high. The near/short term trend is up but correction is in progress with a possible downside target of $45. The indicators are consistent with correction, pointing lower in the nearer term and divergent from the recent high in the longer. A move below $45 would be bearish but with 4th quarter and 2017 growth outlook not likely. Longer term outlook is bullish but may be capped as earnings growth expansion slows.


The consumer discretionary sector saw the 3rd largest downward revision since the start of the quarter but is also expected to be 2nd in terms of positive growth, led by autoparts, internet retail and home/garden. The sector is projected to post growth of 4.9% in the 3rd quarter with that growing to 8.6% in the 4th. Growth remains robust into 2017 but like with the materials sector is expected to top out. Full year 2016 is projected to be 12.6%, full year 2017 only 11.0%.

Looking to the charts we can see that the sector is trending up in the long term but more sideways in the shorter. A new all time high was hit about 2 months ago, another test of that high will depend on a break above the previous all time high which is acting as support. The indicators are mixed, consistent with range bound trading, but may be pressured higher by the moving averages. A break above $80.50 would be bullish but still face possible resistance at the all time high. Near term outlook is neutral, longer term is more bullish.


The information technology sector saw the largest increase in 3rd quarter outlook since the start of the quarter. Despite this it is only 6th in terms of growth but at least it is expecting positive growth, about 1.9%. Growth is expected to expand into the 4th quarter, 4.8%, and expand further into 2017. Full year 2016 outlook calls for growth of 3.5% with that expanding to 11.3% in 2017.

Looking to the charts we can see that the technology sector SPDR XLK has broken out to new highs this year, driven no doubt on earnings and earnings outlook, and could continue higher provided earnings growth expands as predicted. On a technical basis, the ETF is moving to the upside following a rally and consolidation and has an upside target roughly $6.50 above the current levels, near $53.


The utilities sector is projected to post the highest rate of growth this time around, about 5.3%, with that more than quintupling into the 4th quarter to 26.2%. While great in the near term, longer term outlook is not as robust. Full year 2016 projections have earnings growth at 6.3% and then falling off in 2017 to only 2%. Near term outlook is neutral, long term is neutral/bearish.

Looking to the chart we can see that this sector has already entered corrective action. The past two weeks have seen a major sell-off which has brought prices down to the neckline of a potential head&shoulders reversal. A break of this level, $47.75, would be bearish and could have significant downside potential with targets at $45 and $41.


The health care sector has the third largest growth projection within the S&P 500, about 3.9%. This grows to 6.7% in the 4th quarter and expands slightly beyond that into 2017. Full year 2016 outlook has earnings growth at 6.8% and then growing to 10.3% in 2017. This sector has been growing steadily over the past year(s) but remains the one sector I shy away from all because of Obamacare (all the scandal with the drug companies doesn't help either). The unaffordable care act is driving a lot of the activity within the sector and there is just no way to know what's going to happen next year. There are growing signs of its implosion and total failure that mixed with the political climate make big changes more than a likelihood.

This ETF is firmly range bound and trading near the middle of the range. The indicators are consistent with range bound trading and do not show overt strength or weakness at this time. The ETF appears to be moving lower within the range with possible support near $70 and the mid-point of the range. Near term outlook neutral, long term outlook neutral.


Consumer staples is expected to post the 5th best growth rate for the cycle, about 2.7%. This is slightly higher than the 2.5% predicted a few weeks ago but relatively flat over the past 3 months. Growth, driven and supported by labor trends, is expected to expand into the 4th quarter and again into 2017. Full year 2016 growth is expected in the range of 4.3%, full yea 2017 in the range of 8.9%. This sector and the discretionary should see sustained growth into the coming years as new household creation is driven by shifting demographics, the coming of age of the Millennials and a baby boom I am happy to say I am a contributor to.

The charts show an ETF that is in a nice, long, shallow, steady uptrend that has lasted better than 5 years. It is experiencing some mild corrective action in the near term but not overly strong. The indicators continue to point lower so support may be tested, perhaps near $51.50. Near term outlook is neutral, long term outlook is bullish.


The financial sector is expected to come in 7th in terms of earnings growth at only 1%. The sector is ailing from scandal, plagued by regulation, hurt by low interest rates and stronger than ever, at least according to stress tests, living wills and other means of judgment. Despite the headwinds the sector is expected to see growth expand into the 4th quarter and into 2017. Fourth quarter estimates have earnings growing at a rate near 16% in the 4th quarter with full year 2016 at -1.1%. Full year 2017 improves with growth near 12%. This sector, like health care, carries a fair amount of political risk in terms of regulations and administrative stance toward Wall Street, and also FOMC risk in terms of rate hikes.

This chart looks range bound and gives little indication of breaking out to either side. Price action is moving higher in the nearer term but still well within the range with weak indicators. The indicators themselves are consistent with range bound trading and show potential resistance at the $20.00 level. Resistance may be tested again, particularly if earnings are better than expected, but I think it will take positive forward outlook, a reduction in Fed fear and a calming of political seas for a major break out to occur. Near term outlook neutral/bullish, long term outlook neutral/bullish.


The real estate sector. This is the first quarter the Real Estate sector has been included as a stand alone within the index so it will be interesting to see how it behaves. Third quarter growth is only expected to be in the range of 0.8%, down slightly from a few weeks ago, and forward outlook is not good. Fourth quarter projections are for growth, 3.5%, but we've seen the peak. Full year 2016 growth is expected to by 14.3%, full year 2017 is expected to by -14.8%.

This chart is scary just for its newness, there are only 4 months of data for the Real Estate Sector SPDR XLRE. However, it does look like the ETF is trying to trade around the $31 level which could turn out to be an important level, trading-wise. Longer term, with earnings projections so gloomy in 2017, the outlook for the sector is bearish.


The telecom sector is expected to see the smallest amount of negative growth, only about -1.9%. The worst part is that estimates have fallen in recent weeks and are downright dismal for next quarter. Fourth quarter earnings are expected to shrink by more than -25% leaving full year 2016 growth at -7.1%. Next year things get a little better but not really, full year growth is only expected to be 4.8%. This sector was one of our leaders, looks like it's peaked and may be one of the worst performers next year.

The chart tells a similar tale. The Telecom Sector SPDR XTL has run itself up to a peak over the past few months and is now exhibiting some overtly bearish behavior. The past two weeks have formed near identical shooting star type doji candles that have together formed a tweezers top. The indicators are consistent with this outlook; MACD is overbought and divergent while stochastic is forming a bearish crossover high in the upper signal zone. These signals may not lead to reversal or pull back but they give no reason to believe the resistance will be broken or that new highs will be set. Resistance is at the current high, just above $67, with downside targets near $60. Near term outlook bearish, long term outlook bearish because even though growth returns in 2017 the sector will still be one of the weakest in the index.


The industrial sector is expected to post the weakest growth in the quarter after the energy sector, -8.1%. This improves going into the 4th quarter but remains negative at -4%. Earnings growth returns in 2017, 8% versus an expected -4.3% in 2016, but is one of the weaker sectors at only 8%.

The chart shows a bullish chart at risk of correction or pull back. The Industrial Sector SPDR XLI has recently broken out to new highs and is trading above support but the indicators are showing some underlying weakness. Basically, both indicators have rolled over and confirmed with matching bearish crossovers. Current support is in the range of $56.50 to $57.50, near the 150 day moving average and the April tops, which if broken could lead to $55 and $52.50. Near term outlook is neutral/bearish, longer term just neutral.


Conclusions;

In the nearer term, as in between now and next quarter, I am neutral or bearish on 7 sectors and by extension the broader index. Growth is expected across the board but in many cases weak, or weakening, compared to trends and other sectors and so may keep the index range bound. The sectors I am bullish on, in the near term, are Materials, Information Technology, Utilities and Financials although there are some caveats. I'm more neutral on the consumer than bullish but nonetheless have bullish bias on those sectors as well.

Some caveats: The materials sector is expected to see strong growth through the end of 2017 but it looks like the expansion of growth is peaking now and will begin to slow in the coming quarters. The utilities likewise has seen a peak to the expansion of earnings growth and is expected to see growth slow in 2017. The financials are expected to see growth expand into the near term and the long term, but there are risks that could derail that growth. The Information Technology sector is the only one with both near and long term growth prospects free and clear of obvious hurdles.

Longer term I am bullish or neutral-with-a-bullish bias on 8 sectors, much better in terms of overall index trend. The strongest sector, in terms of earnings growth, will be the energy sector followed by materials, financials, information technology and the consumer. So, the nearer term may present some more volatility, there could be a correction (the election, the FOMC meeting etc) but any dip should be viewed as buying opportunity.