Earnings Will Impact Sector ETF Prices

Analysts expect another year-over-year profit decline for U.S. corporations. Here's the impact on ETFs.

Senior ETF Analyst
Reviewed by: Sumit Roy
Edited by: Sumit Roy

The third-quarter earnings season officially kicked off last Thursday with the release of profit figures from aluminum giant Alcoa. In the coming weeks, hundreds of companies will similarly report their earnings, giving investors and analysts plenty of material to pore over.

The third-quarter earnings season will set the tone for the stock market in these critical last few months of the year. Markets were pounded in August and September amid China-related speculation. Now, companies will be able to tell their side of the story. Has the slowdown in the world's second-largest economy significantly derailed the profit picture for U.S. corporations?

That question will slowly begin to be answered this week. A total of 35 companies in the S&P 500 will report in the period, including heavyweights like Wells Fargo, Intel, Johnson & Johnson and Honeywell.

Next week, 122 companies in the S&P 500 will report, followed by 168 companies the week after. By the start of November, it will become increasingly clear whether the market's recent fears were unfounded or not.

As of today, investors seem to be cautiously optimistic. The S&P 500 has recovered about half of its recent losses and is fractionally negative for the year. The coming earnings reports will likely dictate whether the index heads back to its all-time highs and pushes into the green for the year or slides lower again.

Earnings Decline Expected Again

For the S&P 500 as a whole, earnings are expected to decline on a year-over-year basis for a second-straight quarter. Based on current estimates, profits may drop 5.5 percent from last year after falling 0.7 percent in the second quarter, according to FactSet.

However, in recent quarters, companies have tended to beat the lowered analyst estimates, thus it is possible that third-quarter earnings may ultimately end up showing a smaller decline or even a slight gain compared with last year.

In any case, once again, the S&P 500's earnings woes stem from one area in particular: energy. Energy sector earnings are anticipated to drop 64.3 percent due to much lower oil and natural gas prices.

The earnings picture would look much better without energy, but it isn't the only sector projected to show a decline. Utilities, consumer staples, industrials and materials may also show negative year-over-year earnings growth.

The worst of the lot is materials, with a forecasted 18.5 percent decline, followed by industrials, with a 5.7 percent decline.

Source: FactSet

Earnings Outperformers

On the other end of the spectrum are the telecom services, consumer discretionary, health care and financials sectors, where analysts see profits increasing from a year ago in the third quarter.

Telecom leads the pack, with a projected 18.4 percent increase in earnings, followed by consumer discretionary at 9.9 percent and health care at 6.3 percent.

ETF Movers

No matter which way the earnings winds blow, expect plenty of action in the exchange-traded fund universe. The broad market ETFs like the SPDR S&P 500 (SPY | A-99) will have the opportunity to push into the positive for 2015 if overall profits surprise to the upside. As of the close on Monday, the ETF was only down half a percentage point for the year on a total return basis.

The other ETFs where earnings will be a big driver are the sector funds. Depending on companies' outlooks, each of the 11 funds in the select sector SPDR family could either outperform or underperform.

Currently, the Consumer Discretionary Select SPDR (XLY | A-91), up 9.35 percent for the year, is the top-performing ETF sector, followed by the Consumer Staples Select SPDR (XLP | A-96), which is up nearly 5 percent. The Energy Select SPDR (XLE | A-91) is the worst-performing sector, with a 12.2 percent loss for the year, while the Materials Select SPDR (XLB | A-82) follows, with an 8.6 percent decline this year.

Just last week, State Street, the issuer of the funds, debuted two new ETFs―the Financial Services Select Sector SPDR (XLFS) and the Real Estate Select Sector SPDR (XLRE)―in accordance with MSCI and S&P's move to split the financial sector in two starting in August 2016.

YTD Returns For The 9 Original Sector ETFs & SPY

Biotech Earnings In Focus
One level below the sector ETFs are more niche products focused on more specific industries or subindustries. Biotech is one area within the broader health care sector that's been in focus following recent accusations of price gauging by politicians and others.

The iShares Nasdaq Biotechnology ETF (IBB| A-48) is now only up 1.7 percent on the year, after having been up more than 30 percent in July. However, earnings growth for biotech companies are expected to be extremely strong, at 20 percent or more. If that comes to fruition, IBB could get a lift.

Contact Sumit Roy @ [email protected].

Sumit Roy is the senior ETF analyst for etf.com, where he has worked for 13 years. He creates a variety of content for the platform, including news articles, analysis pieces, videos and podcasts.

Before joining etf.com, Sumit was the managing editor and commodities analyst for Hard Assets Investor. In those roles, he was responsible for most of the operations of HAI, a website dedicated to education about commodities investing.

Though he still closely follows the commodities beat, Sumit covers a much broader assortment of topics for etf.com, with a particular focus on stock and bond exchange-traded funds.

He is the host of etf.com’s Talk ETFs, a popular video series that features weekly interviews with thought leaders in the ETF industry. Sumit is also co-host of Exchange Traded Fridays, etf.com’s weekly podcast series.

He lives in the San Francisco Bay Area, where he enjoys climbing the city’s steep hills, playing chess and snowboarding in Lake Tahoe.