The S&P 500 will likely suffer a 24% year-over-year decline in profits in Q2, its worst result since 1998 and well in excess of the -11% consensus estimate analysts were expecting as recently as July 3, says Bloomberg.
The drop is largely attributable to the financial sector. Lehman Brothers (LEH) and Merrill Lynch (MER) lost $2.77 billion and $4.65 billion respectively. But at the same time, energy and oil companies have enjoyed record profits, improving 15% on average from a year ago.
More importantly for the stock market, analysts are still behind the curve. Financial profits have dropped 87% in Q2, far more than the 60% forecast. And analysts are still far too optimistic about the rest of the year.
Specifically, analysts are still predicting a V-shaped recovery. Here are the mean estimates for S&P 500 EPS growth (operating earnings) year-over-year:
S&P 500 Operating EPS, Actual and Estimated
As a glance at the last recession shows (see below), profits don’t recover this way. Even if analysts are right that earnings will grow in Q3 (most likely, they won’t), the forecasts for Q4 and early 2009 are still wishful thinking.
S&P 500 EPS Trend During Last Recession (Y/Y Change)
So what will happen? Analysts will continue to cut estimates. It is hard to see a sustainable rally in the stock market until expectations stop coming down.
See Also: Sorry, The Stock Market is Still Screwed