Earnings season is underway, and investors are getting a closer look at how companies are managing rising costs and elevated interest rates. Corporate profits remain an important driver of stock prices, but even strong earnings may not be enough to satisfy investors when expectations are already high.
Recent inflation reports have helped explain some of the challenges businesses are facing.
The September Consumer Price Index showed annual inflation rising to 3.7%, up from 3.4% in August. Consumer prices increased 0.6% for the month, with gasoline accounting for more than half of that increase.
The Producer Price Index showed an even sharper increase. Prices received by domestic producers rose 1.3% in September, the largest monthly increase since March 2022. Producer prices were 6.3% higher than they were a year earlier, with energy contributing heavily to the increase.
Higher energy costs can work their way through the transportation, manufacturing, and distribution sectors, increasing expenses for businesses across the economy. Companies with strong pricing power may be able to pass those costs along to customers. Others may have to absorb them, reducing their profit margins.
This can make revenue growth misleading. A company might report higher sales because it raised prices, even though customers purchased fewer products. Looking at operating margins alongside revenue helps investors determine whether a business is becoming more profitable.
Interest rates add another challenge.
The 10-year Treasury yield has recently been above 5%, influencing both borrowing costs and stock valuations. When Treasury yields rise, investors may demand higher expected returns from stocks, reducing the prices they’re willing to pay for future corporate earnings.
Growth companies can be particularly sensitive because their valuations often depend heavily on profits expected years from now. Even when their earnings outlook remains favorable, higher interest rates can make those anticipated profits less valuable in today’s dollars.
Higher financing costs can also affect companies directly. Businesses with substantial debt may face larger interest expenses when existing obligations mature, leaving less money available for expansion or other investments.
We’re seeing these valuation questions emerge in the technology sector.
Demand for advanced semiconductors and computing infrastructure remains strong, but expanding capacity requires substantial investment. Investors are examining whether future earnings will justify those expenditures, particularly for companies whose stock prices already reflect expectations for considerable growth.
A company can deliver excellent financial results and still see its stock decline if investors expect something even better. As such, management guidance can sometimes have a greater influence on stock prices than the quarterly earnings announcement itself. Investors aren’t simply evaluating what a company earned over the previous three months. They’re reconsidering what the business may earn in the future and how much they’re willing to pay for those profits today.
I find this especially interesting during earnings season, because it shows how difficult it can be to translate economic information and corporate financial results into trading decisions.
We can understand inflation, interest rates, and company earnings without knowing how a particular stock will respond. A positive earnings report doesn’t guarantee a rising stock price, just as disappointing economic news doesn’t mean every stock will decline.
I believe staying informed is an important part of investing, and I’ll continue following these developments closely. But every time I read the financial news, I’m thankful for the indicator I developed. Rather than trying to predict how investors will react to every report, I can rely on a consistent set of technical signals to help identify potential trades.
Understanding the market is valuable. Having a disciplined way to make trading decisions is what allows me to put that knowledge to work.
My #1 Stock to Own Before the Midterm Elections
November 3rd could be a great night for certain energy stocks while the rest of the market crumbles on election result news. I’ll share with you my #1 pick and why the window could slam shut even before the final votes are counted...
On October 27th I reveal my #1 stock in my new research presentation. Make sure you’re there so you can buy it before the election results come in. Click here to sign up
