Saturday, February 23, 2008
US Earnings Outlook -- FT
--When an economic rough patch looms, optimists visualise a V-shaped chart, with a sharp drop followed immediately by a vigorous bounce back. Such psychology is reflected in profit forecasts for the S&P 500. Earnings probably fell by 21 per cent year on year in the fourth quarter of 2007, according to Thomson Financial. Come the third quarter of 2008, however, and we shall apparently be back to the races, with growth of almost 19 per cent. Increasing earnings is easier once they have been massacred. Financials have just absorbed huge writedowns, so a second-half rebound in 2008 looks plausible. Optimism elsewhere, however, looks overdone. As Citigroup points out, stripping out the financials, S&P 500 earnings expanded by 10 per cent in the fourth quarter – so no easy comparator there. In 2008 the non-financial sectors of the S&P 500 are forecast, in aggregate, to expand earnings at a racy 13 per cent. --More than two-thirds of that gain is expected to come from consumer discretionary, energy, industrials, and IT. The first of these sectors, however, is dealing with falling house prices and bad debt problems. For energy, it is unlikely oil price gains will outpace industry cost inflation this year while refiners will be hurt by falling US demand for fuels. As for the other sectors, it is a stretch to think capital spending will save the day when credit is tight and consumption growth is slowing. There may be a lag as order backlogs are worked off but new demand will probably slow. The jury is out on whether overseas growth can weather a US slowdown. The backdrop is that corporate profits relative to US gross domestic product are already at a four-decade high. Believing that they will rise further, by recording another year of outsized earnings growth in the midst of a slowdown, looks untenable. Expect expectations to be reined in this summer.