Estimates are high and investors are enthusiastic about what could be the best year-over-year earnings growth in seven years. If expectations are met, it could confirm investor sentiment for the tax cuts and higher profits this year.

But the market could be ripe for a correction just as investor sentiment peaks. The S&P 500 is trading at 16.5 times earnings expected over the next year, a premium of 15.4% over the 10-year average of 14.3 times.

#-ad_banner-#Stocks have been skittish all year, dropping more than 10% in February from their peak. The market has already seen three times the number of days trading higher or lower by 1% or more than all of 2017.

This dichotomy means investors need to look deeper into the numbers to make sure their sector positioning and individual picks are ready for what will likely be a very volatile earnings season.

Earnings Season Takes Center Stage
The trickle in first quarter earnings becomes a deluge this week with bellwether names like Bank of America (NYSE: BAC) and Procter & Gamble (NYSE: PG). More than 1,200 companies are expected to report profits for the first three months of the year this week, an increase of 52% over the number of reporting companies last week.

Analysts are expecting a blowout quarter for companies in the S&P 500. The market is expecting earnings growth of 17.1% on average, its highest since the first quarter of 2011.

Contrary to the norm of tempering expectations through the quarter, analysts actually became more bullish as the quarter progressed. The estimated earnings growth for the first quarter, as of December 31, was 11.3% and has climbed ever since.

That optimism and growth should make for a happy earnings season but for one thing, investors have grown more impatient with companies failing to meet these high expectations.

Companies only meeting or slightly beating expectations in the third and fourth quarters were not rewarded while those that missed were punished beyond historical norms. Those beating expectations in the third quarter were rewarded with a price increase of just 0.3% over the four days around the earnings release, well below the five-year average of 1.2% for beating estimates.

Those companies missing expectations saw their shares plunge an average of 3.6% over the same period, higher than the average 2.4% loss seen in the last five years.

If earnings fail to support prices with record profits, all the geopolitical headaches investors have had to deal with could retake the stage. While fears of a trade war and an escalation in Syria have tempered lately, they could weigh on the market if investors have nothing else for which to look forward.

Positioning In Value Sectors Primed For Upside
This dichotomy of fortunes, where some stocks may do very well while others could be harshly punished, means investors need to be extremely vigilant in their pre-earnings positioning. I dug deeper into earnings expectations to find three sectors and stocks that could outperform.

Valuations in most sectors look stretched even after the market’s drop in February. Consumer Discretionary and Information Technology trade well above their 10-year average P/E ratio on a forward basis — at premiums of 19% and 24% over the long-term average.

Energy and Financials are the only sectors trading within 5% of their long-term averages on a forward price-to-earnings basis.

Earnings expectations for companies in the financial sector have doubled since the end of last year yet the sector has followed the rest of the market lower with a loss of 3.8% over the quarter. Financials also have the lowest forward P/E ratio of the ten sectors and trades at a premium of just 4.8% over the 10-year average multiple.

Regions Financial (NYSE: RF) could be a beneficiary of the move to deregulation in banking this year and is expected to grow earnings by 24% to $1.35 per share. The bank is seeing strong growth in non-interest income sources and management has a plan to cut up to 10% in operating expenses for greater profitability. Regions has a strong deposit base across the Southeast and averages a 7% return on equity, well above the industry average.

Companies in health care have also seen profit estimates nearly double but have sold off throughout the quarter. The sector is the second cheapest on a forward P/E ratio and should benefit from obvious demographic tailwinds for years to come.

CVS Health (NYSE: CVS) is quickly becoming a behemoth in the health care distribution market and its planned acquisition of managed-care insurer Aetna would complete its control. CVS has been able to avoid regulatory problems by looking to integrate companies vertically along the healthcare distribution chain. This breadth may allow it to deliver services at a lower cost and keep customers within its network.

CVS is expected to grow earnings by 4.5% this year to $6.19 per share but has consistently beaten expectations. Shares are down 24% from the 52-week high and pay a 3.1% yield.

Earnings expectations for companies in the Industrials sector rose 42% through the quarter as stocks sold off sharply on fear of a trade war. Any resolution short of a full-blown trade war could drive a rebound on the sector’s P/E  valuation that is just above the market average.

General Electric (NYSE: GE) is one of the most talked about names in the industrial sector, and I think the 126-year-old conglomerate could be near a trough in its share price. The company announced the first in its divestment program earlier this month with the sale of its health care diagnostic assets for $1.05 billion to Veritas Capital.

The $20 billion in planned divestments will significantly strengthen the company’s balance sheet and lift the burden of its long-term care insurance obligations which have been weighing on shares. The company is expected to report earnings of $0.95 per share this year, a drop of 10% from last year. Even after a recent dividend cut to protect cash flow, the shares still pay a 3.6% yield and GE has a storied commitment to investor cash return.

Risks To Consider: Even if first-quarter earnings come out unanimously strong, stocks will still need to contend with geopolitical headlines that could weigh on sentiment. Top among these could be an escalation in Syria and a trade war with China.

Action To Take: Reposition in sectors and stocks that could see positive earnings surprises during first quarter reports but that have been dragged down with the rest of the market.

Editor’s Note: What if you could know at a glance which blue chips will move most in the next 90 days? Would you be ready to cash in? Read more…