Welcome to earnings season! Pay close attention over the next few weeks because this may be the most important earnings season in recent history.
How this earnings season plays out could determine where stocks go over the next few months.
It all boils down to basic math.
The S&P 500 is currently sitting at 19X forward earnings estimates, a very normal valuation for the market. Since 2017, stocks have averaged a 20X forward earnings multiple. Following the 2008 financial crisis, they averaged a 17X forward earnings multiple. In fact, going all the way back to 1990, the market’s average forward earnings multiple has been about 19X.
At 19X forward earnings today, then, the stock market is trading at a very fair valuation.
P/E multiples have some, but not much, room to expand if Treasury yields fall (they are inversely related).
Therefore, the next leg higher in stocks will need to be driven by higher earnings – not P/E multiple expansion.
Wall Street’s consensus earnings estimate for 2023 peaked in the middle of 2022 at $230 per share. Since then, it has dropped to about $218 per share.
The quality of this earnings season will determine whether that $218 can rebound back to $230, or whether it needs to fall further to $210.
Of course, which way it goes will determine which way stocks go into summer.
Let’s say the 2023 EPS estimate trends up to $230. The current 19X forward multiple implies a short-term S&P 500 target of nearly 4,440 – about 5% higher than current levels.
The same math with a 2023 EPS estimate of $210 gives you a summer target for the market of 3,990 – about 5% lower.
In short, whether or not stocks rally 5% or crash 5% into the summer will depend on the upcoming earnings season.
The Netflix Earnings Silver Lining
Last night, streaming titan Netflix (NFLX) reported mixed results. However, the company’s commentary suggested that we may be in store for strong earnings reports from Microsoft (MSFT), Alphabet (GOOGL), Apple (AAPL), and more over the next few weeks.
If so, that means it’s time to buy tech stocks.
Netflix’s earnings themselves weren’t great. Now, the company beat most first-quarter metrics, including subscribers, revenues, profit margins, and earnings. But management offered guidance to lighter-than-expected revenues, margins, earnings, and subscriber growth in the second quarter.
Not great. Netflix stock immediately dropped about 10% after the earnings report hit the tape.
But the stock bounced all the way back to the flat line once investors found out why Netflix’s second-quarter guidance was so weak.
In short, Netflix planned to expand its password-sharing crackdown efforts toward the end of the first quarter of 2023. That included a rollout of those efforts in the all-important U.S. market.
Instead, Netflix pushed back that expansion to the second quarter, which means the financial benefits of those efforts will be reflected in the third-quarter numbers, not the second-quarter numbers.
It’s all about timing.
Of course, you have to ask: Why did Netflix push back this effort?
Because it’s learning. This is the first time Netflix – or anyone, really – has embarked on a widespread password-sharing crackdown campaign on this scale. Netflix is learning with each market rollout and incorporating those lessons into its strategy before tackling the next market.
That’s smart. And it means the delay in the U.S. password-sharing crackdown is absolutely worth it.
Simply consider: In Canada, where these efforts have already launched, the paid membership base is now larger than it was prior to the crackdown. And revenue has accelerated to above pre-password-sharing levels.
Canada is a good analog for the U.S. Therefore, following its password-sharing suppression in the U.S., Q3 Netflix earnings should reflect the big growth acceleration investors were expecting in Q2.
In other words, the weak Q2 guidance is nothing to worry about. Much stronger results are on deck in Q3 and Q4. Ahead of that, investors will likely continue to push Netflix stock higher.
The Implications for Tech Stocks
Zooming out, Netflix earnings provide a positive read-through for the whole tech sector.
Subscriber growth was healthy in the quarter, indicating a resilient consumer willing to spend on products and services. The new ad business continued to grow nicely. And advertiser demand for Netflix’s inventory was very strong, indicating that the digital ad industry may be rebounding from its 2022 mini-recession.
Those two takeaways are great news for other Big Tech firms.
If those Big Tech firms – most of which report earnings over the next 10 days – all report strong results, we’re due for a massive rally in tech stocks into the summer.
Tech stocks look technically primed for this big rally.
The tech-heavy Nasdaq bottomed in December 2022. Ever since, it has formed a very solid technical uptrend wherein the index has retaken its 200-day moving average. Importantly, the index formed a super-bullish “golden cross” signal last month, suggesting this is the start of a new tech bull market.
Right now, the Nasdaq is mid-channel in its breakout trend and looks like it’s just waiting for a big catalyst to shoot meaningfully higher. Strong Big Tech earnings could be that catalyst.
Therefore, we think the outlook for tech stocks going into summer is exceedingly positive. It looks like it is time to buy.
The Final Word on Netflix Earnings
We’re looking for strong Big Tech earnings over the next two weeks to spark a big summer breakout in tech stocks.
We think some stocks could rally 10% to 20% into the summer. Others could rally more than 50%.
And we think a few could double.
You see… the U.S. government is developing a top-secret technology that many compare to the discovery of fire itself.
And one tiny stock is developing the best form of this technology right now.
This stock could be the next Microsoft or Nvidia (NVDA). It has trillion-dollar potential. And it could be one of the stock market’s biggest winners in the coming tech stock breakout.
On the date of publication, Luke Lango did not have (either directly or indirectly) any positions in the securities mentioned in this article.