I shared this chart recently about the fundamental breakdown of S&P 500 returns in 2025:
The fact that the dividend yield plus the earnings growth more or less equalled the total return makes for a clean story.
Investors tend to focus on a wide variety of variables — the Fed, geopolitics, interest rates, inflation, economic growth, etc. — but corporate earnings are the biggest driver of stock market returns over the long run:
Having said that…the relationship between earnings growth and stock market returns is not always as clear-cut as it was in 2025.
There are plenty of times when earnings and the market are not in sync with one another.
Here’s a look at the annual returns for the S&P 500 along with the year-end change in earnings going back to 1930:
You can see the relationship between the two growth rates is not exactly one-to-one in most years. In fact, there are plenty of years when returns are up, but earnings are down and vice versa.
Here’s another way of visualizing this:
The quadrant with the most dots is earnings up, stocks up. That happened in 47 out of the past 96 years, roughly half the time. Then there were 8 years when stocks and earnings both fell concurrently.1 This also makes sense.
So far so good.
But there were 24 instances when earnings fell in the same year stocks finished the year up.
And there were 17 years in which the stock market was down but earnings actually rose.
That means nearly 45% of the time stocks and earnings have gone in different directions in a given year since 1930. Almost half of all years the relationship between earnings growth and price growth breaks down.
There are explanations for this of course.
Earnings are reported on a lag. The market is forward-looking. Sometimes investor expectations are caught offside.
This is a good reminder that long-term market forces can often get distrupted in the short-term. Even if you knew what earnings were going to do in a given year doesn’t necessarily mean you can predict what will happen in the stock market.
Stocks can rise during an earnings recession.
Stocks can fall when earnings are going higher.
Anything is on the table in a given year because emotions, trends and expectations often have more to do with short-term performance than fundamentals.
Plan accordingly.
Michael and I talked about corporate earnings, small caps, the stock market and more on this week’s Animal Spirits video:
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Further Reading:
2025 Investing Lessons
Now here’s what I’ve been reading lately:
Books:
1The reason you don’t see 2008 on this chart is because earnings fell nearly 80% that year. We had to cap the axis on the chart to make it easier to read. So 2008 is included in the total, you just can’t see the dot. Same thing with 2009 on the upside when earnings grew more than 200%.
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