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The German share price index DAX graph is pictured at the stock exchange in Frankfurt, Germany, October 30, 2024. REUTERS/Staff/File Photo Purchase Licensing Rights , opens new tab

LONDON, Nov 5 (Reuters) – Europe’s third-quarter earnings have mostly topped markets’ low expectations and investors are rewarding beats more handsomely than they have in years, even though weak China demand is a cause for caution.

In the two months prior to the start of Europe’s earnings season, analysts cut their estimates for earnings growth by around 380 basis points, data from LSEG I/B/E/S showed, giving a lower bar for companies to beat expectations.

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Analysts often trim their growth forecasts just before earnings season kicks off, but usually by only about 100 bps.

So far this season, with around 50% of the STOXX 600 (.STOXX) , opens new tab having reported results, some 56% of companies have beaten expectations, according to Citi equity strategists, broadly in line with an average quarter.

As the U.S. heads to the polls on Tuesday, uncertainty stemming from the election might keep trading in European shares volatile for some time.

We look at five lessons from Europe’s Q3 earnings season so far.

EARNINGS BEATS REWARDED

In a reversal from previous quarters, companies beating expectations have largely been rewarded by investors more than those that have missed forecast have been punished.

Analysis by Bank of America Global Research found stocks beating expectations beat the market by 1.8% on average on the day they announced earnings, the second strongest in a decade, while companies missing EPS underperformed by 0.8%, largely in line with historical averages.

“Concerns on Q3 earnings in Europe had been ramped up ahead of Q3 reporting,” said BofA equity strategist Andreas Bruckner.

“These concerns appear to have been overblown, with earnings recording a nice positive surprise, which also shows in: companies beating on EPS being nicely rewarded with outperformance; and consensus EPS for Q3 being revised up by 3% in recent weeks.”

Bar chart showing median 1-day performance relative to market of European companies on earnings day

CHINA WEAKNESS HITS CYCLICALS

Despite beats being largely rewarded, the impact of China’s flagging economy has reverberated among Europe’s cyclical stocks, with warnings of lower demand from the world’s second largest economy cutting across sectors.

“The earnings trends we are currently seeing are negative everywhere, there are sizeable earnings revisions and the breadth series has fallen across all regions, but it’s far worse in Europe than elsewhere, some of that has been in Chinese-related sectors like autos,” said Graham Secker, head of equity strategy at Pictet Wealth Management.

Line chart showing performance of European luxury stocks in last 6 months

CHINA STIMULUS OFFERS GLIMMER OF HOPE

Despite the doom and gloom – and very real impact on Q3 figures – there remains some optimism for a recovery in China demand given the aggressive stimulus measures announced in September by Chinese authorities to bolster its economy, as well as the potential of more to come

Bernie Ahkong, CIO Global Multi-Strategy Alpha at hedge fund UBS O’Connor, said that it is not a huge surprise that companies are still downbeat about near-term demand from China, but added European stocks are reacting much more positively on earnings relative to actual financials and outlook.

“…investors are looking through this somewhat given stimulus measures, and we are also seeing short covering and de-risking from hedge funds into U.S. elections,” said Ahkong.

Other investors, meanwhile, said they want hard evidence that Chinese stimulus is trickling through to the real economy and company balance sheets.

BANKS RIDING INTEREST RATE WAVE

Europe’s banks had another positive quarter, as still high interest rates supported margins.

The European Central Bank is set to further lower borrowing costs, yet investors remain optimistic.

“Interest rates will be structurally higher than what they were in previous cycles,” said Thomas McGarrity, director, head of equities at RBC Wealth Management.

“That’s very helpful for banks. We’re not going back,” McGarrity added.

Data from LSEG I/B/E/S estimates earnings growth for financials of 20.6% in the third quarter, the third-highest growth rate among Europe’s major sectors behind utilities and basic materials.

So far, their data shows 80% of companies in the sector have beaten earnings expectations.

Column chart showing expected Q3 earnings growth for each sector in STOXX 600

WEAK GROWTH OUTLOOK PROVIDES SMALL OPPORTUNITIES

Europe’s economy has stagnated for most of the last two years, hampered by the dominant industrial sector suffering from surging energy costs and soft global demand.

Many of Europe’s larger companies have a global footprint, but weak domestic demand is weighing on earnings for small- and mid-caps and the outlook remains fragile.

“We’ve had this downgrade of expectations among companies and the outlook is now saying the recovery is going to happen in 2025,” said Marlborough fund manager David Walton, whose strategy focuses on smaller companies.

“We’re in a situation where it’s unclear whether there will be a meaningful recovery in growth in 2025, but that creates an opportunity because we’re able to buy companies at low valuations.”

European companies remain historically cheap, trading at 13.6x 12-month forward earnings versus the long-term average of 14.3x. Mid-caps are even cheaper, trading at 12-month forward P/E of 12.7x versus a long-term average of 15x.

Line chart showing 12-month forward p/e ratio for STOXX 600 compared to 10-year average

(This story has been refiled to add the dropped word ‘earnings’ in the headline)

Reporting by Lucy Raitano and Samuel Indyk; Editing by Amanda Cooper and Susan Fenton

Our Standards: The Thomson Reuters Trust Principles. , opens new tab

This story is available exclusively to Business Insider subscribers. Become an Insider and start reading now.

US stocks slumped on Wednesday as investors tempered their expectations for rate cuts, sending bond yields higher.

Major indexes slipped in early-morning trading, while Treasury yields moved up. The 10-year Treasury bond yield rose three basis points to 4.242%, its highest level in about three months.

The bond market has been caught in a sell-off this week as traders adjust their views on the path of monetary policy amid hot economic data, the potential for a Trump victory next month, and cautious guidance from Fed officials this week.

Investors are pricing in a 69% chance the Fed is still on track to cut rates two more times this year, but odds for a rate cut in January have fallen to 45%, down from 66% a week ago, according to the CME FedWatch tool.

Investors, meanwhile, are keeping an eye on coming corporate earnings reports. Boeing shares slid more than 2% early Wednesday after the aerospace firm reported a loss of over $6 billion last quarter.

Tesla shares also dipped slightly lower as investors readied for Elon Musk’s car company to report earnings after the closing bell.

Earnings season has been off to a strong start so far. 79% of S&P 500 companies that have already reported financials have beaten earnings estimates, according to a FactSet analysis last Friday.

“The bar for third-quarter earnings is low, with analysts currently expecting only about a 3% increase in S&P 500 earnings per share (EPS). That low bar and a supportive economic environment points to potential upside,” LPL Financial wrote in a note.

MacDonald’s stock dropped 6% after the Centers for Disease Control and Prevention said an outbreak of E. Coli linked to the fast food chain’s quarter pounders led to one death and 10 hospitalizations.

Here’s where US indexes stood shortly after the 9:30 a.m. opening bell on Wednesday:

Here’s what else is going on:

Legendary investor Paul Tudor Jones says he’s buying gold and bitcoin prior to the November election.

A Trump win could fuel a long-term buying opportunity in Chinese stocks, according to one stock chief.

In commodities, bonds, and crypto:

All US sectors delivered net beat position

At the time of writing, 90% of US companies had reported, and 77% of them had beaten earnings estimates.

Particularly strong profits from healthcare, technology and communication services meant overall earnings growth for the quarter was 12% for the region, double what was expected.

Past performance should not be taken as a guide to future performance. The value of investments, and the income from them, can fall as well as rise and you may not get back what you put in. You should continue to hold cash for your short-term needs.

Summary

Companies Analysts cut European Q3 earnings estimates at fastest pace in seven months

Investors cautiously optimistic on China stimulus despite lack of details

Cheap valuations, light positioning offer opportunities

LONDON, Oct 16 (Reuters) – Analysts have downgraded estimates for European corporate earnings at the fastest pace in seven months this week, setting a lower bar for beats, while more optimism over the global outlook might spare shares from severe punishment for misses.

Third-quarter earnings are expected on average to have increased 3.7% from a year ago, according to data from LSEG I/B/E/S, driven by growth in materials, financials, and utilities.

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However, the ratio of downgrades to upgrades of analysts’ European earnings estimates has reached its highest since February as the region’s economy struggles to generate meaningful growth.

Bar chart showing net analyst revisions to Europe’s STOXX 600 earnings

“Expectations have come down quite a bit, particularly with the economy weakening,” said Frederique Carrier, head of investment strategy at RBC Wealth Management.

“If numbers are better than expected, I would expect the market to react quite positively,” Carrier said.

(LVMH.PA) , opens new tab As third-quarter earnings season kicks into high gear, this theory is facing a tough test. Shares in French luxury group LVMH dropped on Wednesday by the most in a year, down 6%, after reporting weak quarterly sales.

And late on Tuesday, Dutch tech company ASML’s (ASML.AS) , opens new tab results showed earnings beat expectations, but a downbeat outlook triggered the largest one-day sell-off in its shares since 1998.

In the second quarter, earnings misses were punished more than they had been historically. However, some analysts believe this quarter might be different, as investors turn more optimistic about the global growth outlook.

“Investors are happy to look through the China weakness,” said Georges Debbas, head of European equity & derivatives strategy at BNP Paribas.

China is a critical market for many European sectors and Beijing’s recent announcements of large-scale stimulus measures, although light on details, have offered some hope that the world’s second-largest economy can again drive global growth.

Finance Minister Lan Foan pledged over the weekend that Beijing would do more to stimulate economic growth, which data due on Friday is expected to confirm remained subdued in the third quarter.

The health of China’s economy matters more for European companies that depend more on exports than their U.S. rivals, which generate most of their revenue in their vast home market.

But many investors say they remain cautious until they see further details about China’s stimulus plans, including the size of the proposed package.

“There will be hope that the stimulus package can be positive for companies that have suffered from weak consumption in China,” said Josephine Cetti, chief strategist at Nordea.

“(But) I don’t think companies will change estimates based on what we’ve seen, because we haven’t seen anything concrete yet.”

RELATIVELY CHEAP

Among consumer-facing industries hit especially hard by weakness in China are luxury retailers, such as LVMH and Kering (PRTP.PA) , opens new tab , and automakers.

Investors have been shunning Europe’s auto sector (.SXAP) , opens new tab because of softening volume growth and heightened competition from China, particularly in electric vehicles, despite valuations close to record lows compared to the benchmark STOXX 600 index.

“The auto sector for us has been uninvestable for years,” said Eddie Kennedy, head of bespoke discretionary fund management at Marlborough, citing high capex spending, low margins and increased competition.

More broadly, though, cheap valuations and light positioning offer opportunities for investors.

While the STOXX 600 (.STOXX) , opens new tab is within 1.5% of record highs, European companies trade close to a record discount against their U.S. counterparts at about 37%, based on the price-to-earnings ratio.

Line chart showing the widening gap between the P/E ratio of S&P 500 companies to Europe’s STOXX 600

“Valuations are relatively attractive,” said Ben Ritchie, head of developed markets equities at abrdn.

“I don’t think we’ll see anything in the third quarter that will change that picture.”

Investor positioning in Europe is also broadly neutral according to most metrics. Citi strategists highlight that investors are slightly net short Eurostoxx futures, one of just three indexes from a number that they track that has a net short position against the backdrop of mostly bullish equity positioning.

“It’s not like S&P 500, which is trading at extremely high valuations, extremely high positioning, extremely high overcrowdedness that if a big AI scare happens, you could see a large correction,” BNP Paribas’s Debbas said about the STOXX 600.

“In Europe, I don’t think that’s going to be the case.”

Reporting by Samuel Indyk and Medha Singh in London; Editing by Amanda Cooper and Tomasz Janowski

Our Standards: The Thomson Reuters Trust Principles. , opens new tab