By Mark Hulbert

Lost over the past three weeks in the financial media's focus on the war in Iran was an incredible statistic from S&P Capital IQ that has profound implications for how investors should react to earnings reports.

The firm reported that the recent earnings season -- for the fourth quarter of 2025 -- is turning out to be the 65(th) of the past 67 quarters in which the S&P 500 index's actual earnings were higher than what, just before that earnings season, was the consensus expectation. This is a far higher proportion than we would see if Wall Street analysts were equally likely to overestimate earnings as underestimate them.

Beating expectations is no longer as big a surprise as it used to be, if it is even a surprise at all.

There are, no doubt, many causes of this dramatic shift. According to analysts interviewed for this column, the primary culprit is the game that companies and analysts play to keep expectations low before earnings reports. Companies have an incentive to do this for many reasons: Beating expectations is considered a sign of strong management, for example, and executive bonuses sometimes are based on such beats. Analysts play along because it helps them maintain strong relationships with companies' management.

Regardless of the games that companies and analysts are playing, you'd think that investors would have caught on and stopped rewarding earnings beats. And sure enough, in large part they have, according to an analysis that Odhrain McCarthy conducted for Barron's. McCarthy is a professor of finance at NYU's Stern School of Business in Abu Dhabi who has extensively studied the stock market's reaction to earnings surprises.

One of his findings is plotted in the accompanying chart. It shows average performance from the day before a company's earnings report to the day after. It reflects all S&P 500 stocks with positive earnings surprises since 1995, excluding the one-third of companies that beat the consensus expectation by the largest margins. That's because the bottom two-thirds of the distribution is where we'd expect to see the bulk of earnings surprises that result from gamesmanship among companies and analysts.

As you can see from the chart, "the market reward for small and modest positive surprises has declined significantly over time," McCarthy told Barron's, "suggesting that investors have learned that analysts are increasingly conservative in their quarterly earnings forecasts and can largely see through these beats.

"In other words, the results suggest a small beat used to be good news, and now it's essentially priced in or, if anything, seen as bad news."

Post-Earnings Announcement Drift

There may still be a way to profit from positive earnings surprises, however. The key, McCarthy says, is to focus on earnings beats for companies for which the prior analyst consensus recommendation was Sell or the equivalent. These earnings beats appear to be more of a surprise, and because investors tend to cling to their prior beliefs, they underreact to the unexpectedly good news. It can take several months for investors to fully overcome this reflex, during which traders can profit by not underreacting.

To show the profit potential of such a strategy, McCarthy constructed a hypothetical portfolio out of the 20% of stocks with the biggest earnings surprises among those for which the analyst consensus recommendation before the earnings report was in the bottom 20%, holding each for 90 days. From 1994 through 2022, this portfolio outperformed the overall market by approximately 6% annualized on a risk-adjusted basis. (McCarthy cautions that this result comes from a paper of his that recently began circulating in academic circles but hasn't yet been peer-reviewed.)

A recent example of one of these "recommendation-inconsistent positive earnings surprises" is Arrow Electronics. Though the consensus analyst stock recommendation for the company was Sell or the equivalent, it reported a large positive earnings surprise on Feb. 5: For the fourth quarter, the company's earnings per share were $4.39 -- versus a consensus estimate of $3.55. The stock rose 12.4% the next trading day

While historically such stocks have tended to beat the market over the following three months, McCarthy cautions that the magnitude of this outperformance has diminished in recent years. That may be because even among these stocks, a positive surprise doesn't mean what it used to.

Mark Hulbert is a regular contributor to Barron's. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at mark@hulbertratings.com .

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March 23, 2026 21:40 ET (01:40 GMT)

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