Surging Earnings and Margins Signal a Big Bet on Cyclical Stocks

We know stocks follow earnings.

We also know margin expansion leads to beefy bottom lines.

This is a powerful combo.

Surging earnings and margins signal a big bet on cyclical stocks.

Today we’ll unpack both the earnings and margin expansion picture.

Turns out, there’s a monster opportunity for 2026.

We’ll also highlight the best sectors to overweight to take advantage of ramping profitability.

As a bonus, we’ll wrap up with a list of top institutional outliers in the best positioned sectors.

Surging Earnings and Margins Signal a Big Bet on Cyclical Stocks

Over the long-run, equities are priced on the earnings they create. There’s a very tight long-term correlation between the two (chart).

Earnings resilience has been powering one new stock market record after another.

What’s unique about today’s environment is that profit momentum is accelerating and broadening.

This is all thanks due to constructive regulatory, trade, fiscal and monetary policy tailwinds, combined with nascent AI-driven efficiency gains, all of which are driving positive operating leverage.

The Mag 7 are still seen posting market leading 22.7% 2026 profit growth, but the S&P 493 are quietly closing the long-standing earnings gap with a 12.1% growth forecast – the fastest pace this cycle.

All in, consensus S&P 500 12-month forward earnings growth forecasts stand at 15%, up from high single digit readings a year ago (chart).

S&P 500 revenues are forecast to rise a healthy 7.3% this year.

But margin expansion is seen as the biggest driver of 2026 EPS growth.

Net margins (what’s left after expenses and taxes) are forecast to hit a record 13.9%, up from 2025’s 12.9% (chart):  

There’s a big reason to think record margins still have room to expand further.

Wages represent most companies’ biggest expense.

Unit labor costs measure wages adjusted for productivity, which grew a healthy 4.9% in Q3, more than double the 1.9% long-term average.

As a result, unit labor costs fell 1.9% in Q3, one of the slowest rates on record – think bottom quartile territory (chart).

Here’s the best part.

History says slower unit labor cost growth translates into margin expansion (chart).

This is yet another macro datapoint supporting strong 2026 earnings momentum:

Earnings are growing, check.

Margins are expanding, check.

How do you play it?

What This Means for Your Portfolio

Cyclical sectors like energy, materials and industrials are all leading the market YTD by wide margins.

They stand to be the big margin winners as commodity prices rise faster than input costs.

That’s why these increasingly profitable sectors led the market in January, rising 14.4%, 8.7% and 6.6%, respectively, vs. the S&P 500’s more modest 1.4% gain.

We flagged energy as a sleeper sector in our 2026 Outlook on December 15. We still like it. It’s currently our top ranked sector.

The economically sensitive materials and industrials sectors are also seeing strong inflows and round out our three top-ranked sectors:

These bullish margin dynamics are mirrored in FactSet’s latest 2026 consensus earnings forecasts.

2026 profit growth is seen led by cyclical sectors including technology, materials and industrials, all of whom should beat the S&P’s 14.3% 2026 expected profit increase.

Tech’s is the S&P’s margin leader with 29% net margins. But, as we predicted in our 2026 Outlook, market leadership has faded with tech falling 1.6% YTD, as AI drives major performance dispersion.

AI isn’t lifting all boats anymore. Semiconductors are crushing it thanks to AI-driven profit momentum while software lags badly on fears of AI cannibalization.

Meanwhile, expect energy earnings to beat a very low bar as WTI oil prices rebound.

On the flip side, the counter-cyclical utilities, health care, staples and real estate sectors are all seen growing earnings less than 10% this year (chart):

As we’ve been highlighting for months, be open to new leadership including small-caps…much of those new cyclical winners are in this space.

Let’s wrap up with a list of margin expansion leaders in the winning energy, materials and industrials sectors.

This is where the MoneyFlows process shines bright. Our data is built to find the outlier stocks ahead of the crowd.

Where most research houses got it wrong in 2025, MoneyFlows got it right.

To get access and make even more from this call to action, sign up for a PRO membership.

You’ll get access to our proprietary indicators and learn how our unique money flow approach finds outlier stocks early. Give it a shot!

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Good things happen when you follow the data instead of the crowd!

Next time be early.

Our process helps investors “be early” to trends.

Go with the flows!