High Expectations for Earnings Season
The Roundhill Magnificent Seven ETF (MAGS) climbed 15.2% in 2Q’24, firmly outpacing broad-based U.S. benchmarks. From a profit and price perspective, these companies have been winning by a wide margin in 2024. Thanks to NVDA’s AI-driven surge, TSLA’s better than expected car deliveries, and AAPL guiding for a better iPhone 16 backdrop, investor enthusiasm and expectations are high heading into the 2Q’24 earnings season.
The excitement is clear in consensus expectations. On average, the street is expecting to see average quarterly EPS Y/Y growth of 38% and quarterly revenue growth Y/Y of 25% for the Magnificent Seven. Meanwhile, the other 493 S&P 500 stocks are expected to report 5.4% profit growth in the upcoming earnings season after reporting contracting growth for multiple consecutive quarters.
Sentiment is Decidedly Bullish
As of July 15, 2024, the MAGS ETF has seen $292 million in inflows over the past month, pushing assets to all-time highs. Recently, MAGS set a personal record of $120 million of value traded on July 11 amid a general increase in volume. The average daily value trading volume of $63 million over the past 10 days is 284% above its 90-day average. Sentiment for the group is decidedly bullish.
Wall Street analysts are firmly in the bullish camp as well. Of the 476 total analysts covering the Magnificent Seven, there are only 23 sell ratings. This equates to only 5% of the total. Perhaps as expected, TSLA holds the most analyst skepticism with 14 sells, while AAPL and META each have 4 sells. AI King NVDA has just 1 sell rating among 73 analysts.
Risk/Reward Profile is Tricky
Paired with the elevated bullish sentiment, the valuation backdrop for the group is less attractive. An “innovation premium” is commanded by the Magnificent Seven, which has led to multiple expansion and lofty valuations. It is hard to argue the group as cheap, with 5 of the 7 stocks’ forward price/earnings ratio trading above their 5-year average.
The trajectory of estimated earnings also warrants watching. At the end of June, the Magnificent Seven saw next twelve month earnings estimates grow 55% year-over-year. Historically, these types of growth rates are more akin to early-stage companies, but it is important to be mindful of the risk of tougher comps that the Magnificent Seven will face and the decelerating rate of change.
One-sided sentiment, elevated valuations, and tougher comps on the horizon make the risk/reward profile tricky. While the Magnificent Seven are expected to see another quarter of incredibly high absolute earnings, the bar for growth only keeps increasing for another quarter of beats and raises. The odds of disappointing investors with less room for error are rising.
What Are the Macro Influences Impacting the Magnificent Seven?
Thursday’s cooler than expected Consumer Price Index readings gave investors hope that a Fed cut in September is increasingly in the bag. A reduction in interest rates and the cost of capital could help improve broader earnings growth and alleviate cost of capital pressures. This could give a needed boost to the other 493 companies in the S&P 500 or the most beaten down small caps as investors feel more comfortable stepping into cyclicals and unprofitable companies. With fundamental growth potentially broadening out, this could prompt investors to rotate away from the Magnificent Seven.
The Playbook for the Magnificent Seven
For now, investors must navigate a delicate balance this earnings season and a short leash is warranted. Despite the risk of the Magnificent Seven falling short due to lackluster earnings, poor guidance, or a slowing economic environment, investors could use short-term weakness in these market giants as an infrequent opportunity to add exposure. A more pronounced slowdown in economic growth could lead to the Magnificent Seven being used as a safe haven within equity markets given their collectively strong balance sheets, high profit margins, and high free cash flow.
That said, it is difficult to fully write off the Magnificent Seven. The fundamental importance of the group is crucial for aggregate index profits, The group has a roughly 23% net income weight in the S&P 500 on a trailing twelve month basis while higher margins and margin expansion have also played a role in their equity market leadership in 2024. Year-to-date, the Magnificent Seven have seen over 100 basis points of margin expansion compared to just 20 basis points of margin expansion for the remaining 493. The tide of the market may be shifting in the short term, but it is hard to ignore the longer-term tailwinds that have driven the Magnificent Seven to be secular growth leaders.
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Investing involves risk, including possible loss of principal. The Fund expects to have concentrated (i.e., invest more than 25% of its net assets) investment exposure in one or more of the Technology Industries at any given time, which may vary over time. Further, the Fund expects to obtain such investment exposure by transacting primarily with a limited number of financial intermediaries conducting business in the same industry or group of related industries. As a result, the Fund is more vulnerable to adverse market, economic, regulatory, political or other developments affecting those industries or groups of related industries than a fund that invests its assets in a more diversified manner. The value of stocks of information technology companies and companies that rely heavily on technology is particularly vulnerable to rapid changes in technology product cycles. Please see the summary and full prospectuses for a more complete description of these and other risks of the Fund.
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The S&P 500 Index is a stock market index tracking the stock performance of 500 of the largest companies listed on stock exchanges in the United States. One may not directly invest in an index.
Glossary
Consumer prices (CPI) are a measure of prices paid by consumers for a market basket of consumer goods and services. The yearly (or monthly) growth rates represent the inflation rate.
Price/Earnings Ratio is calculated by dividing the price of the security by Bloomberg Estimates Earnings Per Share (EPS).
