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Strategies & Market Trends : Stock Attack -- A Complete Analysis -- Ignore unavailable to you. Want to Upgrade?

To: Electric who wrote (17160)	10/29/1998 9:21:00 AM
From: Rambi	Read Replies (2) \| Respond to of 42787

Electric-I don't know whether you subscribe to Briefing.com-but as the market seems perfectly content to accept the spin put on AMZN earnings and other manipulated figures, this was certainly appropriately timed: Earnings Stink The stock market has rallied over the past two weeks for several reasons: 1) the Federal Reserve lowered short-term interest rates, 2) global economic turmoil appears less threatening, and 3) third quarter earnings reports have come in better than expected. All of these have a fair degree of validity. Unfortunately, the forest has been lost for the trees on the earnings reports. The earnings picture is not pretty. Everyone Beats Wall Street has a vested interest in making sure that most companies beat published earnings estimates. A company that reports earnings "a penny ahead" of estimates usually sees the stock go up. Miss by a penny, though, and a stock can get hit hard. Therefore, Wall Street makes sure to keep published estimates conservative enough so that most companies can clear the hurdle. This leads to the phenomenon of "whisper numbers" which reflect what analysts, and Wall Street, are really expecting. It also means that every quarter without fail, about twice as many companies report earnings above estimates as report earnings below published estimates. This quarter is no exception. So far for the third quarter, with 388 companies in the S&P 500 reporting, 50.7% have beaten expectations and 23.2% have missed. That is close to the typical 55% to 27% ratio of those beating to those missing. The market frequently rallies as earnings reports come out. Individual stocks get a boost as they report "better than expected" earnings. Sounds great, doesn't it? The market rallies as it has the past few weeks. Yet, the overall earnings picture is rather bleak. Earnings Earnings growth is a misnomer. There is no growth. Depending on whether one looks at as-reported (true, all inclusive earnings) or operating earnings, earnings have either been declining for several quarters, or at the least, the growth rate has been declining. You Probably Heard it Here First The data are clear: earnings stink. So far in the third quarter, with data from 388 of the S&P 500 companies, First Call says that operating earnings are down 3.4% from the year earlier. The downtrend from the heady days of the 1994-1996 is absolutely clear. Growth has slowed every quarter since the Asian crisis hit in the fourth quarter last year. The picture for as-reported earnings is even worse. As-reported earnings includes all those one-time charges and write-offs that companies have become so adept at declaring. One-time charges are generally ignored for a single company, because they are supposed to reflect non-recurring events. In theory, it might make sense to amortize these costs to shareholders over an extended period, but that is not done. When aggregating for 500 companies, however, there are "one-time" charges every quarter, usually from a fairly stable percentage of the companies. It therefore makes sense to use as-reported earnings when looking at the true earnings power of a large aggregate of companies such as the S&P 500. The as-reported, true earnings picture shows that this is likely to be the fourth straight quarter of lower year-over-year earnings. This is not something that you will hear trumpeted by Wall Street The fact that as-reported earnings show a worse trend than operating earnings also indicates that write-offs and one-time charges have been above normal levels the past few quarters. Cynics might suggest that this is due to the need to pull tricks out of the bag to make sure operating earnings hold up. Whether true or not, it definitely suggests that the quality of earnings the past few quarter is suspect. (my bold) The Outlook Wall Street looks forward, not back. So, maybe the outlook is bright. The S&P 500 at Wednesday's closing price of 1068 puts the price/earnings ratio at 27.4, not far from the recent high of 30. Apparently, investors expect a significant rebound in profits. In fact, the fourth quarter 1998 consensus estimate from Wall Street calls for profits to grow 7.4% from the 1997 level. Even more impressive, the consensus is for profits for 1999 to rise an astounding 18.7% compared to 1998. Expectations of a strong rebound in profits are clearly in the market, even if not to the full degree of the ever-optimistic Wall Street forecasts. The problem of course is if the market is priced for tremendous good news, and it doesn't come. After all, Japan remains in recession, and emerging markets are no longer growth economies. Europe is in sluggish mode, and now it looks like the U.S. economy is slowing down as well. Forecasts of even 10% profit growth for 1999 seem optimistic to Briefing.com. The market has been forecasting an earnings rebound "next quarter" ever since the Asian crisis hit late last year. It hasn't come yet, but it is still expected just around the corner. Maybe the market can hold up perpetually waiting for profit growth until it actually returns. Unfortunately, the up side in the market is limited until that occurs, given current high valuations. The risk that profits continue to decline, or that the market loses faith in the "imminent" profit rebound is fairly high. When looked at from an overall perspective, the earnings picture is clearly worrisome.