rudedog, Analysts are taking it on the chin both ways currently.
NW
Pay no attention to the '99 numbers
The official earnings estimates still see 18.6% growth next year.
You shouldn't buy it.
Andrew Marks
moneydaily.com
Investors taking a look at corporate earnings estimates for the
fourth quarter and beyond would be forgiven if they came away with
the impression that good times are just around the corner.
Stock analysts, after all, are paid -- very well in most cases --
to interpret a company's business and figure out what's in store
over the next year or longer. And the numbers they're providing
now on the crucial issue of earnings growth for S&P 500 companies
have actually improved of late, from 17.7% in August to 18.6% now.
Do these analysts know something about the worldwide financial
crisis and economic slowdown that the majority of investors in
this gloomy and uncertain market don't? Unfortunately, the answer
seems to be a clear and emphatic "no."
"The fact of the matter is that analysts have yet to take the
current and developing economic realities into consideration for
their estimates, and the result is that earnings growth rates are
being vastly overstated for next year," says Charles Pradilla,
chief investment strategist at S.G. Cowen.
This issue is especially important to the small investor, who has
been schooled to make informed investment decisions based on
certain fundamental valuation tools. After all, it's hard to
assess a stock's price if you have no way of knowing whether the
company's expected rate of earnings growth over the next year or
two is at least reasonably accurate.
Judging by his comments Wednesday at a meeting of the National
Association for Business Economics, Fed chairman Alan Greenspan
doesn't expect earnings growth to recover too soon. "It's pretty
obvious, I think, that the outlook for 1999 for the U.S. economy
has weakened measurably," he said.
And despite a hint -- sound familiar? -- that another interest
rate cut is on the way, stocks continued to reflect investors
concerns of a global recession. The Dow industrials, which rallied
to a 150-point gain after his speech, finished the day at
7,741.69, down 1.29. The broader market indexes fell deeper into
negative territory. The S&P 500 gave up 13.91 points, or 1.41%, to
close at 970.68. And the Nasdaq composite, tumbled 48.27, or 3.2
percent, to 1,462.62, its lowest level since July 2, 1997.
Analysts have brought their year-over-year earnings growth
forecasts for the just- completed third quarter -- the estimate
now is minus 4.2% -- into line with the current gloomy realities,
but are still calling for earnings growth of 6.4% for next
quarter, and 18.6% for 1999. Why are they still so optimistic?
According to the experts we spoke with, there are two reasons:
* First, analysts usually do a poor job of forecasting earnings
downturns.
"Over nearly 20 years, we have found that earnings growth
forecasts have consistently failed to anticipate earnings
downturns," says Salomon Brothers analyst Eric Sorenson in his
study of earnings estimates.
Why? Analysts are generally reluctant to incorporate external or
macroeconomic effects -- like the current worldwide economic
slowdown -- into their analyses until they have nearly irrefutable
proof of how it will affect the company, say our experts.
"They're willing to cut third- and fourth-quarter estimates
vigorously because the companies themselves have made it clear
what to expect," says Charles Clough, chief investment strategist
at Merrill Lynch, who has started advising the firm's analysts to
reduce their forecast numbers. "But unless they get that kind of
guidance for the future from company management, they won't revise
their numbers down."
* Second, analysts are having a hard time figuring out the extent
and duration of the current earnings slowdown. And Joe Abbot of
earnings tracker I.B.E.S. International says downward revisions
for the year ahead are coming at a slower pace in this down market
than in the recession-plagued market of 1990.
Patricia Chadwick, head of U.S. equities at Invesco, says the
discrepancy is understandable. "There's a slew of difficult and
confusing issues out there now, and its not easy to figure out
their impact on a company-by-company basis."
Clough, however, blames analysts' growing dependence on company
management for guidance. "Earnings numbers have gotten very
complicated and confused by accounting gimmickry over the last few
years, to the extent that most analysts can't make their analysis
independently of what the companies tell them," he says. "That's a
real problem, because most companies aren't going to tell you that
they're going to have an earnings problem for more than a quarter
or two."
What's the small investor to make of this? Clough says you should
be wary of valuation methods that are based on a company's future
earnings growth. And beyond that, it's a matter of common sense.
"It's a very uncertain time, and I think you've got to be wary of
any analysis that seems optimistic," he says. "Investors should be
aware that they can't trust numbers just because they comes from a
Wall Street analyst."
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