After a stellar 2014, the American stock market seems to be the worst performer this year among the major world indices, with the S&P 500 index having gained about 2% so far. This is much lower than the gains of 26.2% for Germany’s DAX and 14.1% for Japan’s Nikkei. The weak trend is likely to continue heading into the Q1 earnings season, given bouts of volatility and uncertainty.
This is especially true as a strong U.S. dollar is making exports less competitive thereby taking a toll on the sales of the big American firms. Further, lower oil prices and global growth worries have been weighing on the bottom line and in turn playing foul on the economy. The combination of these factors have pushed revenue and earnings estimates lower for Q1 and the magnitude of negative earnings revisions has been the highest in many quarters.
According to the Zacks Industry Trend, Q1 earnings for the S&P 500 companies are expected to decline 3.3% on 4.5% lower revenues. Earnings estimates have fallen sharply over the past three months from 4% growth projected at the start of the year. Further, it is well below the Q4 earnings growth of 6.4%. The weakness is broad-based with half of the 16 Zacks sectors likely to post an earnings decline and energy being the biggest drag with an expected 62.7% year-over-year decline in earnings and 36.2% in revenues.
If we look at Wall Street expectations, Q1 S&P 500 earnings are expected to decline by 2.8% from the year-ago quarter, representing the worst quarter since Q3 of 2009.
Amid the sluggish backdrop, transportation and auto sectors are expected to outperform with a whopping earnings growth rate of 42.1% and 32.9%, respectively. In fact, transportation is the only sector likely to record higher earnings growth compared to the fourth quarter. Other sectors – medical and construction – will likely post double-digit earnings growth, followed by financials and business services.
Given this, it would be a great idea to zero in on the best stocks of the top two sectors, which are not only poised to beat earnings estimates but are also expected to lead higher in the days to come.
How to Choose Stocks?
Earnings beats definitely inspire investor confidence and propel the price of these sector stocks higher. Picking star performers is easy if we go by our proprietary methodology that selects stocks with a combination of a favorable Zacks Rank – Zacks Rank #1 (Strong Buy) or 2 (Buy) or 3 (Hold) – and a positive Zacks Earnings ESP.
Earnings ESP is our proprietary methodology for identifying stocks that have the maximum chance to surprise with their upcoming earnings announcements. It shows the percentage difference between the Most Accurate estimate and the Zacks Consensus Estimate. Our research shows that for stocks with this combination, the chance of a positive earnings surprise is as high as 70%.
Below, we have highlighted three stocks that will likely deliver an earnings beat when their reports are released in the coming weeks and would drive the share price higher, resulting in above-market returns.
Transport
A top pick is Hawaiian Holdings Inc. HA, which carries a Zacks Rank #2 and has an Earnings ESP of +10%. The stock falls in the airline industry of this sector that has a solid Zacks Industry Rank in the top 37%. It has seen solid earnings estimate revision of 11 cents over the past 30 days to 30 cents for the first quarter, which represents a whopping increase from loss of 2 cents in the year-ago quarter.
The stock currently trades at P/E and P/B of 8.0 and 3.2 compared to the industry averages of 16.1 and 3.5, respectively. This suggests that the stock is undervalued at the current levels and could be a solid buying opportunity given its huge earnings upside potential.
Based in Honolulu, this is Hawaii's largest airline, engaged primarily in the scheduled transportation of passengers, cargo and mail. It offers nonstop service to Hawaii from 11 U.S. gateway cities, which is higher than any other airline, along with service from Japan, South Korea, China, Australia, New Zealand, American Samoa and Tahiti. The company is scheduled to report its results after the market close on April 23.
Auto
Cooper Tire & Rubber Co. CTB, carrying a Zacks Rank #3 and a solid industry rank in the top 38%, could be a great pick this earnings season. The company has an Earnings ESP of +4.05% and seen the earnings estimate rising 2 cents for the first quarter over the past 30 days. The Zacks Consensus Estimate represents a 4.5% year-over-year increase.
The stock currently trades at P/E and P/B of 14.2 and 2.8, respectively, a massive discount to the industry averages of 20.2 and 4.0, respectively. This suggests a solid entry point at current levels.
Based in Findlay, OH, Cooper is engaged in the manufacture and marketing of replacement tires worldwide. It is the fourth largest tire manufacturer in North America and the 11th largest in the world. The company is slated to release its earnings after the market close on May 1.
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