Investors are facing a 'make or break' 3rd-quarter earnings season as supply-chain issues and labor costs mount, Bank of America says

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  • Bank of America sees S&P 500 earnings growth for Q3 but increasing pressure from supply-chain issues and higher wages.
  • Guidance in quarterly financial reports could be ‘ugly,’ said BofA strategist Savita Subramanian.
  • BofA sees Q3 earnings in line with Wall Street’s consensus estimates vs. a 17% beat in Q2.

Corporate America is on course to continue posting earnings growth for the third quarter of 2021, but investors should brace for companies to issue disappointing guidance as they contend with supply-chain bottlenecks and rising wages, said Bank of America.

The third-quarter earnings season will get underway this week with reports due from 10% of S&P 500 companies, mainly financial firms like JPMorgan Chase & Co., Goldman Sachs, Citigroup, and Wells Fargo.

BofA in a note Monday called the third quarter a “make or break” period for earnings. It said Wall Street is looking for S&P 500 companies to turn in average earnings of $49.06 a share, up 27% from a year ago when the US economy was beginning to rebound from its COVID-driven recession. That would mark a slowdown from a second-quarter earnings expansion of 88% that led companies overall to beat expectations by 17%.

“With the strong beat, 3Q EPS estimates have risen 3% over the past three months, but we see increased headwinds heading into 3Q, primarily driven by supply chain issues, delta-driven slowdown, and continued inflationary pressure,” said Savita Subramanian, head of US equity and quantitative strategy at Bank of America Global Research.

BofA, which lowered its third-quarter per-share earnings projection by $2 to $49, sees earnings for the period meeting analyst expectations but guidance could be “ugly,” the strategist said.

Subramanian said while margins in the second quarter expanded to record highs, companies pointed out difficulty passing through cost inflation.

“Since then, issues have worsened: supply chain news stories increased 74% and freight rates from China rose 20%, with record backlogs at the West Coast Ports,” she wrote. Supply issues mostly led to a near-record number of profit warnings in the third quarter.

Numerous industries have been hurt by a range of supply-side disruptions such as chip shortages, a jump in costs for shipping and prices for raw materials, and pay hikes to alleviate laborforce shortages.

Wage inflation “is just as big of a headwind (if not bigger)” than supply-chain problems, as the US Bureau of Economic Analysis estimates wages are as much as 40% of total private sector costs, said BofA. The bank also sees earnings risks from slowing growth in China and higher oil and gas prices.

“Demand remains robust but soaring inflation poses downside risks. While analysts have baked in margin contraction this quarter … we see big risks to 2022 numbers, where analysts expect record margins,” said Subramanian.

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