Key takeaways
Corporate profits are up, fueled by a growing economy.
Signs have emerged of a market rotation away from technology stocks into other S&P 500 sectors.
2025 projections call for continued earnings growth.
On the strength of U.S. economic growth that generally outpaces the rest of the world’s developed economies, corporations continue to generate profit growth. With nearly all S&P 500 companies already reporting third quarter earnings (a measure of corporate profits), quarterly earnings grew by almost 6% compared to the prior year. This marks the fifth consecutive quarter of year-over-year earnings growth.1
“The earnings expectations bar was set fairly low for most companies in the third quarter,” says Rob Haworth, senior investment strategy director for U.S. Bank Asset Management. “Although forecasts for 2025 earnings growth are generally positive, we don’t have a lot of clear signals yet from U.S. companies on what to expect.”
Despite continued elevated interest rates, the U.S. economy’s expansion continues. In the second quarter, Gross Domestic Product (GDP) was up 3.0%. Third quarter growth nearly matched that, at 2.8%.2 “Positive earnings to this point can be attributed primarily to strong consumer spending,” says Haworth.
Based on expectations that in 2025 the economy can stay on a similar path, 2025 earnings projections show a steady rise, particularly in the second half of the year.
“We are seeing some signs of a market rotation, particularly in the wake of 2024’s election results,” notes Haworth. “Financial, industrial and cyclical stocks appear to be better positioned.” According to FactSet Research Systems, banks are expected to be among the fourth quarter’s earnings growth leaders. Semiconductor and semiconductor equipment companies remain well positioned.1 “Technology remains important in the long term,” says Haworth. “But there are other industries starting to the come to the forefront, particularly with continued U.S. economic expansion.”
“Although forecasts for 2025 earnings growth are generally positive, we don’t have a lot of clear signals yet from U.S. companies on what to expect,” says Rob Haworth, senior investment strategy director with U.S. Bank Asset Management.”
Perhaps the most visible technology component is Nvidia, which has grown, based on market capitalization, to be among the most valuable global companies. In 2024’s third quarter, Nvidia again reported strong earnings growth, though some investors expressed disappointment that the company’s forward growth projections were not as strong as they once were. “Nvidia has grown very fast over the past few years. It’s not realistic, as the company expands, to maintain that same level of impressive growth,” says Haworth.
The environment for corporate profits evolved in recent years. The economic slowdown tied to 2020’s emergence of the COVID-19 pandemic drove earnings lower. As the economy recovered, inflation soared, leading the Federal Reserve to push interest rates significantly higher. Slower economic growth resulted, tempering the pace of corporate earnings growth in 2022, a trend that continued until 2023’s third quarter.
“S&P 500 earnings are projected to come in close to $240 per share in 2024 — about a 10% improvement from 2023, based on analysts’ estimates,” says Haworth. While pointing to remaining challenges given the economy's modest growth and elevated interest rates, Haworth says the earnings outlook remains positive. “We’re not seeing earnings expectations for the rest of 2024 or 2025 adjusted lower. That’s constructive for equity investors.” Current projections anticipate upwards of 15% growth in 2025 for S&P 500 corporate earnings.1
Earnings are a primary measure of a stock’s individual value. Investors often use a statistic known as the price-to-earnings (P/E) ratio to help determine a stock’s value relative to the rest of the market. In other words, it is the ratio of the current price of a stock compared to the company’s earnings. A stock trading at $30 per share with annual earnings of $2 per share would have a P/E ratio of 15.
When trying to assess which of two stocks offer the best investment opportunity based on their P/E ratios, it’s not always an “apples-to-apples” comparison. “Determining fair value has a lot to do with the underlying growth rate of the industry in which the company competes,” says Haworth. In some cases, investors may be willing to bid up prices based not on current earnings, but on expectations of future profitability. “This tends to be the case, for example, with stocks that invest in new technology that may not have an immediate payoff but offer the potential of future strong earnings if they succeed,” says Haworth. “Other stocks may have lower P/E multiples, but those companies generate steadier earnings, so the payoff on the investment needs to happen in a more compressed timeframe.”
Investors also consider P/E valuations of the broader market. As of October 31, 2024, the S&P 500’s P/E ratio based on earnings in the prior 12 months was 27.87, while the P/E ratio based on projected earnings for the next 12 months is 21.72.3 Analysts may set different valuations on the market based on varied sets of projections.
With S&P 500 P/E ratios based on projected earnings exceeding 20 times earnings, Haworth says the market may, on the face of it, look expensive. “But we’re in a different state now. Interest rates are still somewhat elevated, and inflation has come down significantly, so higher market multiples (P/E valuations) may be justified.” Haworth notes that technology-related stocks make up more than one-third of the S&P 500’s valuation in today’s market.3 “These companies are generally expected to realize faster, long-term growth rates, so they are often valued at higher multiples than other types of stocks.”
U.S. companies appear to be well-positioned for continued earnings expansion. A key factor is the U.S. economy’s ability to maintain solid growth. “To this point, consumer spending remains strong, and that’s the biggest economic growth driver,” says Haworth.
If current economic trends continue, it may benefit a broader stock universe. “In recent times, technology-oriented stocks dominated market performance, but we think we’re seeing some broadening in the market today,” says Haworth. “In the current environment, a globally diversified portfolio puts investors in a position to capitalize on a broad array of opportunities.”
As you assess your investment options and how to best position your portfolio, it can be helpful to do so in the context of a financial plan. Talk with your wealth professional to review whether changes to your investment strategy may be warranted to better reflect your goals, risk appetite and time horizon.
Company earnings typically reflect a firm’s net income, or the money it makes after costs are deducted. The calculation begins with revenue generated over a specific period of time, usually one quarter (13 weeks). Then the cost of sales, operating expenses, interest costs and taxes incurred over that same time are deducted from revenue to determine earnings.
Essentially, they are the same. Other terms used that are comparable to “earnings,” are “net income” and “the bottom line.” Investors will sometimes consider other variations on “profits.” For example, gross profits reflect the direct costs of sales incurred to generate revenue. A higher gross profit reflects significant efficiency in creating products and services that generate revenue. Operating profit accounts for indirect costs, such as marketing and administrative expenses. Net profit is a calculation of operating profit minus interest and taxes. Operating profit is the equivalent of corporate earnings.
As investors assess the financial health of a publicly traded company, earnings, which reflect the “bottom line” for a company, off a the more complete picture. Revenue reflects a company’s income. When calculating earnings, various expenses are deducted from revenue to give a sense of a company’s profitability. A firm may generate significant revenue, but if expenses are too high, its bottom line will not look as impressive. Investors put the greatest emphasis on a company’s earnings, and the pace of earnings growth over time, in determining the appropriate value of a stock.
With inflation retreating and more interest rate cuts likely, how should investors position their portfolios to capitalize on potential opportunities, while guarding against risks?
A fresh look at managing your cash and investments in today’s changing interest rate environment can help support your pursuit of the goals that matter most to you.
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