The 3Q22 earnings season has been generally positive, alleviating some investors’ immediate concerns of a slowing economy’s impact on corporate profitability. However, as the macroeconomic backdrop is likely to deteriorate further, challenges to corporate margins and sustainable growth may still be on the horizon.

While results for the 3Q22 earnings season have generally been positive, closer examination reveals pockets of weakness.

During the third quarter, S&P 500 earnings growth slowed to 4.4%, from 8.8% in 2Q22. And while 71% of earnings beat expectations, a sectoral breakdown reveals energy’s outsized contribution to growth. Excluding energy, S&P 500 earnings growth (-3.4%) was outright negative for the second consecutive quarter.

- Six sectors reported an increase in earnings in 3Q, while five sectors reported declines. Financials and communications were the two worst performing sectors, challenged by a mix of macro volatility, inverted yield curves and fading growth opportunities.
- Industrials was the strongest sector after energy, supported by defence and transport. Most surprisingly, the consumer discretionary sector grew robustly, shrugging off inflation concerns.
- Defensives were mixed. Real estate performed very well, health care and consumer staples recorded meagre growth, and utilities contracted. With costs still so elevated, overall revenue growth exceeded earnings growth, confirming that margin pressures continue to build.

Fears for next year have grown. Earnings estimates for 2023 have been steadily revised lower since the start of the 3Q earnings season, with the consensus now expecting an earnings contraction in both 1Q and 2Q next year as margin pressures grow. Certainly, with elevated inflation signalling further interest rate hikes and growing evidence of slowing economic activity, earnings face a hostile backdrop in 2023.