Broker Check

The Heartbeat of the Market

| October 23, 2023

There’s been a recent beginning of a reversal in equity markets after going oversold. So today we want to lay the groundwork on what the data is telling us about the fourth quarter, starting with earnings, which are necessary to support a continuation of the rebound.

Earnings season just began, and as of this writing, companies in the S&P 500* are reporting year-over-year earnings growth of 0.4% for the third quarter. Should that take place, it would mark the first quarter of year-over-year earnings growth since last year’s third quarter.

But what is the likelihood of that? Well, given how most S&P 500 companies report actual earnings above estimates, improvement in earnings growth rates during earnings season indicate the actual growth rate will be more than 0.4% for this quarter.

In fact, actual earnings growth has exceeded estimated earnings growth in 37 of the past 40 quarters. And over the last 10 years, actual earnings reported by S&P 500 companies have exceeded estimated earnings by 6.6%, on average.

During this span, 74% of companies reported actual earnings per share (EPS) above the mean EPS estimate. As a result, the earnings growth rate increased by 5.4% on average due to the number and magnitude of positive earnings surprises. If this average is applied to the initial earnings decline expectation for this quarter of -0.3%, the actual earnings growth rate for the quarter would be 5.1%.

If we look at just the past five years, S&P 500 companies have exceeded earnings estimates by 8.5% on average:

During that time, 77% of S&P 500 companies reported actual EPS above mean EPS estimates, on average:

This made the earnings growth rate increase by 7.3% on average due to the number and magnitude of positive earnings surprises. If we apply this five-year average to this quarter’s initial -0.3% expectation, the actual earnings growth rate would be 7.0% for the quarter.

Now let’s turn to how numbers are trending currently. Keep in mind, only 32 companies in the S&P 500 have reported earnings as of this writing. But of those, 84% have reported actual EPS above mean estimates. In aggregate, the earnings reported by these 32 companies have exceeded estimates by 10.1%, which is greater than the five- and 10-year averages described above.

This strong start is encouraging, based on historical context. Should it continue, it would create strong fundamental support for our fourth quarter equities rebound thesis.

Small Signs of Life Across All Sectors

With that understanding of fundamentals and earnings, let’s now dig more into data to see if there’s more foundational support for the recent market reversal as well as any evidence of a broader rally to end the year.

Our readers know one of our favorite metrics is the Big Money Index (BMI) from MAPsignals. The BMI is a 25-day moving average of “big money” professional investor buys versus sells. It recently hit oversold territory, which is a historically bullish signal.

See, “big money” institutional investors drive markets. Firms like Morgan Stanley and JP Morgan estimate 70-90% of all daily stock volume is driven by institutional investors. That’s why the BMI is such a good measure in our opinion – it captures overall money flowing in and out of the market that ordinary price and volume charts just don’t show.

Let's look at the BMI snapshot of the last year:

At first glance, you might think that this doesn't show much. But the amber line is the heartbeat of the market, showing money flow patterns like blood pumping in and out.

When money flows in too fast, it pushes the BMI to the red overbought zone. That’s like high blood pressure. When money flows out too fast, the BMI dives to the green oversold area, which is like low blood pressure. Neither extreme case is sustainable for overall market health, just like we humans and our hearts. But just like our amazing bodies, markets can also self-correct.

Laying market prices onto the chart snaps the BMI into clearer view:

The snapshot shows an oversold BMI. However, the prognosis is good because there was healthy flushing out of risk recently and the markets should heal nicely. For example, check out the last few years after the BMI hit oversold territory:

Every time the BMI went oversold, prices shot higher shortly thereafter. The best part is how the BMI has consistently displayed this pattern over time. Since 1990, the BMI reached oversold 26 times. Returns after those instances are significantly better than S&P 500 averages in the following days, weeks, and months:

Almost every oversold BMI case since 1990 has produced a fantastic long-term recovery:

Yet as we sit here today with every sector having been hit hard, the selling momentum is fading and we're even seeing the beginning of buying now in energy, technology, and industrials stocks:

There are actually small signs of life across all sectors after the most recent violent selling capitulation. Selling in exchange-traded funds (ETFs) has basically vanished:

There’s been a significant calming in stock selling too:

Keep in mind there are four phases of institutional money flows that rotate:

By our calculation, a couple weeks ago we saw markets firmly in phase four, rotating to phase one. When we look at recent market performance, performance points to a significant repositioning under the surface (i.e., a phase change), as markets reversed since we saw peak capitulation:

There’s a simple lesson from history in these types of cases. That is, when forced selling vanishes like it has, we should begin to prepare for a rally.


*Links to third-party websites are being provided for informational purposes only. CoreCap is not affiliated with and does not endorse, authorize, or sponsor any of the listed websites or their respective sponsors. CoreCap is not responsible for the content of any third-party website or the collection or use of information regarding any websites users and/or members.

* The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market.

Securities sold through CoreCap Investments, LLC.  Advisory services offered by CoreCap Advisors, LLC.  Cornerstone Financial and CoreCap are separate and unaffiliated entities.