The first earnings recession for the S&P 500 since 2016 is taking shape

Earnings reporting season is more than half over, and hopes for an improvement to growth, which historically has taken hold in the latter half of the year, are fading fast. Read More...

Earnings reporting season is more than half over, and hopes for an improvement to growth are fading fast.

While there has been some improvement in the past two weeks, the S&P 500’s first earnings recession in three years may now be just around the corner.

Through Tuesday morning, 264 of the 505 S&P 500 companies SPX, -0.26%, or 52.3%, had reported second-quarter results. The aggregate blended earnings-per-share estimate, which includes both actual and estimated results, was for a decline of 2.24%, according to FactSet data, compared with an estimate of a 3.0% decline just before earnings reporting season started.

Of the 11 S&P 500 sectors, seven are showing EPS declines, led by the 19.1% drop for the materials sector, followed by the 12.3% fall in industrials’ earnings, FactSet said. The health-care sector was so far the best performer with growth of 6.4%, followed by financials at 4.6%.

An earnings recession is generally defined as two straight quarters of year-over-year EPS declines. If the second-quarter EPS growth ends up being negative, after a 0.3% decline in the first quarter, it would mark the first back-to-back quarters of declines since the second quarter of 2016.

Also read: An earnings recession looms for first time in 3 years.

Before the start of earnings season, history suggested that there was a very good chance that a recession could be avoided. Over the past five years, the earnings growth rate has typically improved by 370 basis points (3.7 percentage points) from the start of earnings season to the end, said FactSet Senior Analyst John Butters.

That would suggest second-quarter EPS growth could eventually improve to growth of about 0.7% from a decline of 3.0% at the start of the season. So with the current improvement at just 80 basis points, to negative 2.2% from negative 3.0% at the start of earnings season, the odds of a typical swing to growth have diminished.

The main culprit of the earnings decline is weakness in international markets, which has been exacerbated by trade tensions between the U.S. and China and the European Union. Butters said S&P 500 companies that generate more than 50% of sales within the U.S. are producing blended EPS growth of 3.2%, while companies that generate most sales outside the U.S. are reporting an EPS decline of 13.6%.

Don’t miss: With trade tensions escalating, here are 5 things to know about this earnings season.

Also read: Fed’s Powell says trade worries restraining the economy, hints at interest-rate cuts soon.

Meanwhile, the outlook for the third quarter has worsened. The blended EPS estimate is for a decline 2.2%, compared with a decline of 1.1% at the start of earnings season.

Despite the negative earnings outlook, the S&P 500 has gained 2.5% since the end of the second quarter, after rising 3.8% during the first quarter and 13.1% during the fourth quarter.