ASX Investors Overlook Earnings Decline Warnings

Investor confidence continues to drive the ASX higher, even as concerns grow about a third consecutive year of declining earnings. The trend may come under pressure as resource sector profits slow.

Australia's largest listed companies are expected to report another drop in earnings this financial year. Market consensus indicates a 1% decline for the S&P/ASX 20 Index. This would follow a 4% fall last year and a 10% slide in 2023. Despite this downward trend in profitability, share prices are rising, showing a widening gap between market valuations and company earnings.

Much of the expected weakness in earnings stems from major mining companies, which have slowed after a strong post-pandemic run. Iron ore producers, which have historically been reliable performers, are now dealing with more challenging conditions as commodity prices ease. During the last financial year, iron ore futures declined from $110 to $94 USD per tonne. Analysts forecast that combined earnings in the sector may fall by around 13%.

However, some fund managers believe the current outlook may be too focused on past trends. They argue that iron ore prices have likely hit their lowest point, and that relying on outdated or spot prices could understate future potential. These managers note a recent increase in commodity exposure by Perth-based investment firms, suggesting a renewed interest in the mining sector. Expectations of global stimulus and potential interest rate cuts are encouraging a shift back toward miners.

Even so, earnings across the broader ASX 20 are likely to remain subdued. Financial institutions may post mid-single-digit growth, but that may not be enough to offset weaker performance from resource companies. Morningstar forecasts very limited earnings growth through 2026 and 2027, warning that real earnings could fall further when adjusted for inflation.

Analysts are increasingly concerned about how far valuations have risen. Since 2023, the ASX 20 has gained about 30%, even as earnings have dropped by 15%. As a result, the index is now trading at an estimated 20% premium to fair value. This is a level rarely seen over the past decade. If earnings fail to rebound, the gap between valuations and fundamentals could lead to instability in the market.

Source: Australian Financial Review, AI Invest

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