Equity Monthly Review November 2024

Horacio Coutino, multi-asset strategist

Q3 Earnings in focus

As the third-quarter earnings season concludes, the S&P 500 presents a nuanced performance. While the index has surpassed initial earnings projections, the incidence and magnitude of positive surprises remain below historical averages. Nevertheless, the index has sustained its positive trajectory, achieving y/o/y earnings growth for the fifth consecutive quarter.

Data compiled by LSEG I/B/E/S as of 22^nd November, 2024, indicate that 95% of S&P 500 constituents have reported Q3 results. Of those reporting, 76.4% exceeded EPS estimates, surpassing both the 5-year average of 77%, and the 10-year average of 75%.

Despite initial projections, the blended earnings growth rate for Q3 has reached 8.9%, a notable increase from the 5.3% forecast at quarter-end. Should this figure hold, it will mark the fifth consecutive quarter of y/o/y earnings growth for the index.

Seven of the eleven sectors within the S&P 500 registered y/o/y earnings growth, led by the Communication Services and Information Technology sectors. Conversely, four sectors experienced y/o/y declines, with the Energy and Real Estate sectors demonstrating the most significant contractions.

Since 30^th September, S&P 500 companies have exceeded earnings expectations by an aggregate of 7.6%. While this surpasses the average surprise factor observed in the preceding four quarters (+6.5%) and the 10-year average (+6.8%), it falls short of the 5-year average (+8.5%).

The Utilities sector demonstrates the most significant positive difference between actual and estimated earnings at +12.7%, followed by Communication Services (+11.6%) and Consumer Discretionary (+9.9%).

With respect to revenue, 60.6% of S&P 500 constituents exceeded projections, a figure that trails both the 5-year average of 69.0% and the 10-year average of 64.0%. In aggregate, revenues surpassed estimates by 1.5%, notably lower than the 5-year average of 2.0% and slightly higher than the 10-year average of 1.4%.

The blended revenue growth rate for Q3 currently stands at 5.3%, an increase from the 4.1% forecast at quarter-end. Positive revenue surprises within the Financials and Health Care sectors have been instrumental in driving the index's revenue growth rate upward since 30^th September, contributing +3.7% and +3.5%, respectively. Conversely, the Utilities sector recorded the largest negative difference between actual and estimated revenues, at -2.7%.

Eight sectors achieved y/o/y revenue growth, led by Information Technology, Health Care, and Communication Services. On the other hand, three sectors have reported a y/o/y decline in revenues, led by the Energy sector.

The forward 12-month P/E ratio of the S&P 500 stands at 22.0x. This surpasses both the 5-year average of 19.6x and the 10-year average of 18.1x, and represents an increase from the 21.6x recorded at the end of the Q3.

8 S&P 500 companies are scheduled to release their Q3 results during the week of 25^th November.

S&P 500 Earnings Growth: 8.9%

Seven of the eleven sectors have reported or are projected to report y/o/y earnings growth for Q3 2024. The Communication Services, Information Technology, Health Care and Utilities sectors lead this growth. Conversely, Energy, Real Estate, Materials, and Industrials have recorded a y/o/y decline in earnings.

Communication Services stands out with the highest y/o/y earnings growth rate among all sectors, at +25.7%. Alphabet and Meta Platforms significantly outperformed expectations, reporting $2.12 and $6.03 per share, respectively, against estimates of $1.55 and $4.39. The robust performance of these two companies propelled the sector's blended earnings growth rate to 25.7%, an increase from the projected 12.3%. It is worth noting that, absent the contributions of Alphabet and Meta Platforms, the sector's y/o/y earnings growth rate would have been lower, falling from 23.2% to 10.8%.

The Information Technology sector exhibited the second-highest earnings growth rate at +19.1%. However, this growth was tempered by a negative earnings surprise from Apple, which reported EPS of $0.97 against an anticipated $1.60. This shortfall represents the most significant detractor to the index's overall earnings growth since 30^th September. Apple's reported earnings included a net charge of $10.2 billion stemming from the reversal of the European General Court's State Aid decision. Consequently, the blended earnings growth rate for the Information Technology sector experienced a more moderate increase, rising to 19.1% from 15.4% over this period.

The Health Care sector secured the third-highest y/o/y earnings growth rate at +14.6%, driven significantly by Pfizer's strong performance. Pfizer exceeded earnings expectations, reporting EPS of $1.06 against an anticipated loss of $0.17 per share. Excluding Pfizer's contribution, the sector's y/o/y earnings growth rate would have been substantially lower, falling from 14.6% to 2.3%. Furthermore, the Health Care sector played a pivotal role in the index's overall revenue growth, with its rate increasing from 6.8% to 10.6% since the end of the quarter.

Conversely, the Energy sector recorded the most substantial earnings contraction among the eleven sectors, registering a y/o/y decline of -25.4%. This decline is primarily attributed to the decrease in oil prices compared to the same period last year. The average price of oil in Q3 2024 was $75.27 per barrel, reflecting an 8% decrease from the $82.22 average price in Q3 2023. At the sub-industry level, this decline was driven by Oil & Gas Refining & Marketing (-77%), Oil & Gas Exploration & Production (-17%), and Integrated Oil & Gas (-13%). In contrast, the Oil & Gas Equipment & Services (14%) and Oil & Gas Storage & Transportation (13%) sub-industries demonstrated y/o/y earnings growth.

Beyond its impact on earnings, the Energy sector also exerted the most significant downward pressure on the index's overall revenue growth rate. The sector's blended revenue decline worsened over the period, increasing from -2.8% to -5.4%.

S&P 500 Net Profit margin: 12.2%

As of 22^nd November, according to Factset, the blended net profit margin for the S&P 500 in Q3 2024 reached 12.2%. This figure matches both Q2's and the year-ago net profit margin, and surpasses the 5-year average of 11.5%.

Five sectors experienced a y/o/y increase in their net profit margins in Q3. Leading this growth is the Communication Services sector, with a 1.7 percentage point increase, from 13.0% to 14.7%. Conversely, six sectors reported y/o/y declines in their net profit margins, with the Energy sector experiencing the most significant contraction of 2.2 percentage points, from 10.6% to 8.4%.

Furthermore, five sectors reported Q3 net profit margins exceeding their 5-year averages. The Consumer Discretionary sector demonstrated the most significant positive deviation, with a net profit margin of 9.9% compared to its 5-year average of 6.7%. In contrast, six sectors reported Q3 net profit margins below their 5-year averages, most notably the Materials sector, with a net profit margin of 8.8% compared to its 5-year average of 11.2%.

The S&P 500 reaction to earnings

Market reactions to earnings announcements from S&P 500 companies reveal a symmetrical pattern, with both positive and negative surprises eliciting more pronounced responses than historical averages.

Companies that surpassed earnings expectations were rewarded with an average price increase of +1.6% in the two-day window surrounding their earnings release. This exceeds the 5-year average price increase of +1.0% observed for companies reporting positive surprises.

Conversely, companies that fell short of earnings expectations experienced a more pronounced negative market reaction.  Their share prices declined by an average of -3.1% in the two-day window surrounding the earnings release, a larger decrease than the 5-year average of -2.3% observed for companies with negative surprises.

The S&P 500 is +4.18% since this earnings season began on 10^th October.

Global backdrop

November saw a varied performance across major global equity indices, primarily driven by sectors that would significantly benefit from a shift in US policy. Notably, sectors like Consumer Discretionary and Financials outperformed, influenced by expectations of higher discretionary spending and less regulation. Performance diverged between major US and European indices, with the former ending close to record highs, while the latter experienced declines. Additionally, November witnessed the market solidifying its expectations of a decelerated pace of monetary easing by the Fed, following a fairly robust September nonfarm payrolls report released on 4^th October.

• According to the CME FedWatch tool, interest rate swaps have now priced in a 70% probability that the Fed rate will be set lower, in the target range of 4.25 - 4.50% at its 18^th December meeting. This is slightly higher than 28^th October pricing which assigned a 69.0% probability of a rate reduction to the target range of 4.25 - 4.50% on that date. Additionally, interest rate swaps have priced in a 33.5% probability of no change in policy.
• Yields have decreased in different magnitudes across regions in November. The US 10-year yield was -2.6 basis points (bps) to 4.264%, while the 10-year German Bund was -22.6 bps to 2.164%. The spread between the two widened by 20.0 bps from 190.7 bps at the end of October to 210.0 bps now.
• The US dollar strengthened in November. The US Dollar Index, at 106.40, was +1.99% MTD, while the YTD performance by 27^th November was +4.64%. The euro was -2.63%  MTD against the dollar, while Sterling was -1.38% MTD in November.

Regional breakdown

US

S&P 500 +5.14% MTD and +25.76% YTD
Nasdaq 100 +4.29% MTD and +24.35% YTD
Dow Jones Industrial Average +7.08% MTD and +19.03% YTD
Russell 2000 +10.45% MTD +19.69% YTD

Note: As of 5pm EDT 27 November 2024.

Source: Factset

Ten of the eleven S&P 500 sectors experienced positive performance in November. Consumer Discretionary led the index's performance this month, at +11.99%, followed by Financials at +10.14% and Industrials +6.88%. Conversely, Health Care underperformed at -0.13%. 

In November, unlike October, the equal-weighted version of the S&P 500 outperformed the benchmark by 0.81 percentage points MTD, yielding a +5.95% return compared to the S&P 500's +5.14%. The equal-weighted version has achieved a +18.22% YTD return, compared to the S&P 500's +25.76%.

Source: Factset

An analysis of the past five years (60 months) demonstrates that the November performance of major US stock indices has been strong, all above their median monthly returns, and two major indices registering monthly performance above the 90^th percentile. The Russell 2000’s November performance ranks at the 93.2^th percentile, being the strongest among major US equity indices; only four instances in the last 60 months have seen a superior performance. The Dow Jones’ November performance follows closely ranking at the 91.5^th percentile, signifying that 5 out of the past 60 months have witnessed higher performance. The S&P 500's November performance of 5.14% ranks at its 77.9^th percentile, indicating that 13 months out of the past 60 have seen a stronger performance. The Nasdaq 100’s performance ranks at the 64.4^th percentile within the context of the past 60 months.

Europe

Stoxx Europe 600 -0.09% MTD and +5.42% YTD
Germany DAX +0.97% MTD and +14.98% YTD
FTSE 100 +2.03% MTD and +7.00% YTD
France CAC 40 -2.82% MTD and -5.30% YTD
Spain IBEX 35 -0.80% MTD and +14.62% YTD
MSCI Europe -0.63% MTD +4.55% YTD

Source: Factset

In November, the Stoxx Europe 600 displayed a negative performance across most of its sectors, with 9 of its 17 sectors in negative territory. Financial Services emerged as the frontrunner, +4.81%, followed by Travel & Leisure +4.81% and Insurance at +2.92%.

Conversely, Autos & Parts underperformed at -5.26%, followed by Chemicals at -4.91%.

A comparative analysis of the Stoxx Europe 600 Equal Weight (EW) index reveals a contrasting picture. The EW index, which assigns equal weight to each constituent company, posted a +0.27% return in November, outperforming the standard Stoxx Europe 600's -0.09%. Moreover, its YTD performance stands at +3.99%, 1.43 percentage points lower than the European benchmark. This analysis indicates a more equitable distribution of growth across the constituents of the EW index. In contrast, the concentration of large-cap companies within the main index may have hindered its overall performance.

Source: Factset

A review of the past five years (60 months) of equity index performance indicates that European equity indices experienced a period of relative underperformance compared to US markets in November 2024.

France CAC 40's November performance ranked at the 23.7^th percentile, indicating that 46 months within this timeframe have yielded higher returns, exhibiting the weakest November performance among major European indices. Spain’s IBEX 35, MSCI Europe, and Stoxx Europe 600 performances, all three in negative territory, were positioned at the 40.6^th, 42.3^rd, and 44^th percentiles, respectively. Germany’s DAX at +0.97% ranked at the 49.1^th percentile, converging at the median monthly performance.

FTSE 100’s performance resided above its median, at the 66.1^th percentile, indicating that its performance in 20 of the past 60 months has been superior to that of November 2024. FTSE 100’s performance was the strongest among European indices at +2.03%.

As of 26^th November, according to LSEG I/B/E/S data for the STOXX 600, Q3 2024 earnings are expected to increase 8.2% from Q3 2023. Excluding the Energy sector, earnings are expected to increase 13.8%. Q3 2024 revenue is expected to decrease 1.1% from Q3 2023. Excluding the Energy sector, revenues are expected to increase 0.6%. Of the 283 companies in the STOXX 600 that have reported earnings by 26^th November for Q3 2024, 56.2% reported results exceeding analyst estimates. In a typical quarter 54% beat analyst EPS estimates. Of the 339 companies in the STOXX 600 that have reported revenue for Q3 2024, 48.7% reported revenue exceeding analyst estimates. In a typical quarter 58% beat analyst revenue estimates.

Financials, at 76%, is the sector with most companies reporting above estimates. At 30%, Utilities is the sector that beat earnings expectations by the highest surprise factor. In the Real Estate and Energy sectors, 55% of companies have reported below estimates. Additionally, Basic Materials’ earnings surprise factor was the lowest at -11%. The STOXX 600 surprise factor is 6.3%. The forward four-quarter price-to-earnings ratio (P/E) for the STOXX 600 sits at 13.2x, below the 10-year average of 14.3x.

During the week of 2^nd December, 2 companies scheduled to report Q3 earnings.

Analysts expect positive Q3 earnings growth from seven of the sixteen countries represented in the STOXX 600 index. Denmark (92.2%) and Italy (28.5%) have the highest estimated earnings growth rates, while Portugal (-30.6%) and Poland (-24.6%) have the lowest estimated growth.

US equities are pricing in MAGA 2.0

The recent election victory of the President-elect has significant implications for financial markets: tariffs and tax cuts means higher fiscal deficits and inflation, followed by higher rates and a stronger US dollar. We also expect increased M&A activity, deregulation, and movements towards a “crypto utopia”. 

Following the US election, investment themes associated with the President-elect's policy agenda have coloured returns across various sectors and regions. Since 5^th November, the S&P 500 index has recorded a gain of +3.73%, while the STOXX Europe 600 index has declined by -0.90%. The Russell 2000 index, composed of small-cap stocks, has outperformed the S&P 500 despite its higher valuation of 20.80x next-twelve-months EV/EBITDA, compared to the S&P 500's 15.10x.

Small caps: the big winners

As the US election approached and in its aftermath, a once-dormant market narrative came back to life. Small-caps, which experienced a brief but spirited rally in July, have gained momentum since mid-October, outperforming their mid- and large-cap counterparts over the past month.

Since 5^th November, both the Russell 2000 and Russell 3000 indices have outperformed the S&P 500's performance by 5.99 percentage points and 3.58 percentage points, respectively. This outperformance reflects market expectations that the President-elect's fiscal policies will stimulate economic growth, disproportionately benefiting smaller companies.

Smaller companies tend to exhibit greater sensitivity to economic fluctuations compared to their larger counterparts due to their limited capacity to adjust cost structures. Consequently, even minor variations in revenue can translate into substantial changes in profitability.

Moreover, a reduction in corporate taxes would likely provide a more significant advantage to smaller companies, as they generally derive a larger proportion of their revenue and profits domestically. In contrast, many large and mid-cap companies have already implemented comprehensive tax optimization strategies.

Within the Industrials, small-cap companies, often characterised by a domestic focus, may experience a more pronounced positive impact from the President-elect's policies compared to their mid-cap and large-cap counterparts. Higher trade barriers could shield domestically-oriented manufacturers from foreign competition.

However, it is essential to acknowledge the inherent uncertainties surrounding these projections. The growth implications of the President-elect's immigration and trade policies remain unclear and could potentially have adverse effects. For instance, while domestic manufacturers may benefit from reduced foreign competition, they may also face higher input costs such as rising wages as labour markets tighten on reduced migration, potentially mitigating their competitive advantage. Furthermore, the new administration's approach to antitrust regulation may differ from current market expectations.

Onshoring, tariff risks, and (de)-regulation

Onshoring. The onshoring trend is gaining significant momentum, driven by a confluence of factors. Recent legislation, including the Infrastructure Bill, Inflation Reduction Act, and CHIPS Act, coupled with tariffs and technology restrictions targeting China, demonstrate a clear prioritisation of onshoring within US industrial policy.

The COVID-19 pandemic, escalating geopolitical tensions, and disruptions to supply chains and shipping have exposed the vulnerabilities of overreliance on globalised production networks, further incentivising onshoring. Existing lower relative energy costs have converged in the US to create a uniquely favourable backdrop for companies that benefit from the onshoring trend, and the tailwinds appear multi-year in nature.

Companies with exposure to the onshoring of US supply chains have demonstrated structural outperformance relative to those with predominantly China-based supply chains. This outperformance is driven by earnings growth, underpinned by structural tailwinds. Moreover, the continuation of these policies under the new administration suggests further potential for valuation upside.

Since 5^th November, Utilities, Industrials and Energy have outperformed the S&P 500 by 1.61 percentage points, 1.37 percentage points, 0.43 percentage points, respectively, reflecting this trend.

Tariff risk. The President-elect's stated intention to implement tariffs on day one has heightened investor concerns about companies with extensive international supply chains.  Investor sentiment favors companies with greater geographical control over their operations. 

Companies within the Consumer Staples sector that rely heavily on imports from countries potentially subject to tariffs face heightened risk. This sector has underperformed the S&P 500 since 5^th November by 0.54 percentage points, reflecting these concerns.

De-regulation risk. The policies proposed by the President-elect are anticipated to lower regulatory burdens, steepen the yield curve, bolster capital markets, and reduce tax rates. Among sectors, Financials stand to benefit the most from this shift in focus, particularly in areas such as regulation (including B3E, late fees, and antitrust measures), tax reform, a steeper yield curve, and exposure to capital markets. Reflecting these expectations, Financials has significantly outperformed the S&P 500, delivering a return of 9.72% since 5^th November —exceeding the index by 5.99 percentage points—making it the top-performing sector in November.

Regulation risk. Anticipated regulations aimed at enhancing health standards within specific US industries have prompted market reactions. Following the President-elect's announcement of Robert F. Kennedy Jr. as the nominee to lead the Department of Health and Human Services, investor concerns arose, particularly regarding Mr. Kennedy's previous comments on food additives. These concerns were reflected in the stock performance of vaccine manufacturers Moderna and Novavax, which declined by 5.6% and 7%, respectively, on the day of the announcement.

The sell-off in biopharmaceutical stocks last week serves as an early indication of the challenges in predicting policy-related volatility within this sector, especially given the unpredictable political landscape. This uncertainty is further evidenced by the Health Care sector's performance since 5^th November; it is the only sector within the S&P 500 to register a negative return, underscoring the market's apprehension regarding potential regulatory changes.

Effects of the MAGA 2.0 trade on Europe

The prospective return of Trump to the US presidency has introduced considerable uncertainty into the trajectory of US-EU trade relations. The President-elect's prior pronouncements on imposing substantial tariffs, particularly targeting the automotive and agricultural sectors, have generated apprehension within the EU.

The ramifications for the EU are significant, given that the US constitutes its largest export market, representing 19.7% of extra-EU exports in 2023. Furthermore, the bloc's substantial trade surplus of €156.7 billion with the US potentially renders it susceptible to protectionist trade measures. However, the EU may retain a strategic advantage in navigating potential trade negotiations. Its reliance on the US for only eight critical products contrasts with the US dependence on the EU for 32 strategically important goods, predominantly within the Chemical and Pharmaceutical sectors. To mitigate potential trade tensions, according to Bloomberg, the EU may pursue various strategies, including augmenting imports of US LNG, increasing defense expenditures on American equipment, and deploying its anti-coercion instrument to enact countermeasures.

The confluence of these trade concerns with the EU's current economic vulnerabilities, characterised by subdued growth and competitiveness challenges, amplifies the potential adverse impact of trade disruptions. Europe's well-documented economic and political headwinds, coupled with a perceived lack of decisive policy response, may further constrain its economic performance relative to other markets exhibiting more robust growth and proactive policy frameworks.

In the aftermath of Trump's electoral victory, European equities have underperformed, reflecting investor concerns regarding potential trade frictions. While acknowledging the risks posed by tariffs, it is important to recognize the increasing international diversification of European corporations. STOXX 600 companies currently maintain 30% of their assets in the US, compared to 18% a decade ago, and 55% of their assets are classified as foreign assets, as noted by our prior Alpha Vibes article on Europe’s GRANOLAS. This trend is likely to continue, propelled by the pursuit of higher-growth markets, less restrictive regulatory environments, and the incentives offered by initiatives such as the CHIPS Act and the Inflation Reduction Act. The prospect of heightened tariffs may further catalyse this diversification trend.

Investors' considerations for 2025

The current economic landscape presents a potentially advantageous backdrop for equities, characterised by interest rate cuts coinciding with economic growth. However, the 40% appreciation in global equities since October 2023 warrants a cautious approach. This significant rally has increased market vulnerability to unforeseen headwinds and diminished the potential for further valuation expansion. Consequently, we anticipate that future index returns will be primarily driven by earnings growth.

In light of prevailing high valuations and the unusually high concentration within equity markets, portfolio construction should prioritise diversification to enhance risk-adjusted returns. A diversified approach across sectors, geographies, and asset classes can mitigate the potential impact of unforeseen events and enhance portfolio resilience.

While investors appear confident in their understanding of the President-elect's policies and their implications, it is imperative to recognise the inherent unpredictability associated with this administration. Historical precedents and past pronouncements may not reliably guide future actions, leading to a wider range of potential outcomes, including a heightened probability of unforeseen events. Therefore, maintaining a prudent stance and acknowledging the potential for significant deviations from current expectations remain crucial.

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