Sunday, July 19, 2009

Earnings Uptick Lifts Confidence

Stock Market Soars for the Week as Early Corporate Reports Handily Beat Estimates By E.S. BROWNING The first wave of quarterly corporate earnings reports arrived stronger than expected, soothing investor fears of another economic crisis and helping push the Dow Jones Industrial Average to its strongest weekly gain since March. The Dow ended the week up 7.3% at 8743.94, taking just five days to recover almost all the 7.4% decline of the previous four weeks, as investors took heart from blowout earnings by Goldman Sachs Group Inc. and positive comments from J.P. Morgan Chase & Co. and Intel Corp. Even less-than-stellar reports from Bank of America Corp., Citigroup Inc. and General Electric Co. failed to halt the Dow's advance. Only about 11% of major companies have reported second-quarter results so far. Plenty of surprises may await as more than half make their announcements in the coming two weeks. But up to now, 71% of those reporting have beaten analysts' expectations. While forecasts were quite low, that is notably stronger than the 61% that typically surpass estimates, according to Thomson Reuters. And several big companies, including International Business Machines, J.P. Morgan and Intel, have made relatively upbeat comments about the future. The Dow, which is made up of 30 blue-chip stocks including Bank of America, Intel, IBM, J.P. Morgan and GE, closed Friday up 32.12 at 8743.94. It remains down 38% from its 2007 record close. Although the profit news has been better than expected, it still isn't especially good, and investors aren't exactly celebrating. Analysts still forecast that all 10 of the major industry groups represented in the Standard & Poor's 500-stock index, from finance to technology to energy, will post second-quarter declines in profit compared to one year ago. They continue to forecast a profit decline for the S&P 500 companies overall for all of 2009. Investors agree that the road ahead will be rocky, and many still hold more cash than normal. The most bearish warn that investor confidence isn't strong enough to push stocks significantly higher, and that another severe stock slump could come in September or October, which historically have been dicey months for financial markets. For now, the presence of cash on the sidelines is considered good for the market, because it gives investors what analysts call "dry powder" that they can move into stocks as their confidence gradually improves. "The government has saved the banks, and therefore the Armageddon calamity is just not likely," said Henry Herrmann, chief executive of money-management group Waddell & Reed. "On the other hand, we haven't necessarily fixed the banks, which was manifest in the Citigroup and Bank of America earnings reports." In its commentary on its earnings, Citigroup suggested that growth in bad consumer loans may be moderating. But that means loans are continuing to go bad, just at a slower pace. Bank of America warned that "profitability will be much tougher in the second half of the year than it was in the first half" and that credit losses are likely to rise. Mr. Herrmann's firm has gone to 7% cash today from 22% in the first quarter. That is still above the 2% or 3% that would be normal for his firm, which manages about $57 billion. Companies such as IBM still are reporting declining sales from a year ago, so that their profit gains are based more on cost-cutting than on a real improvement in the market. Even Google Inc. reported slowing sales increases. GE, which reported a 49% second-quarter net income decline Friday, was hurt by softness in its industrial-order backlog, on which analysts had been counting to offset weakness in its financial-services side. The stock market is recovering not so much on signs of real economic progress, but on relief that disaster may have been averted. To become really bullish, money managers say they would want to see sales improve. A report just out from Goldman Sachs warns that it could take years for economic demand to get back to normal. "We find that under reasonable parameters of supply and demand growth, it will take at least two years, and probably more like three to five years, to eliminate spare capacity in the manufacturing sector," said the report from Goldman economist Andrew Tilton. "In the labor market, the unemployment rate is likely to remain above the current concept of 'normal' for an even longer period." That would be bad news in an economy more than two-thirds dependent on consumer demand. While Intel said it saw signs of better days ahead, executives at both Intel and Dell warned this week that businesses were delaying tech purchases and wringing more use out of older desktops and laptops. Intel said it isn't counting on significant new demand this year. Such worries could limit stock gains in the second half. For now, investor expectations were so low that any signs of improvement at all were grounds for bidding stocks higher. Even news that the government was refusing to rescue small-business lender CIT Group Inc. wasn't enough to send stocks down. Investors appeared to agree with the government that CIT wasn't too big to fail. At Harris Private Bank in Chicago, Chief Investment Officer Jack Ablin says he is preparing to move about 5% of the $60 billion his firm manages into stocks from bonds. Today his portfolio is made up of 60% stocks and 40% bonds, and Mr. Ablin plans to make the shift toward stocks in a bet on a gradual economic recovery. Key Private Bank in Cleveland is mulling a similar shift. "We think the rally will continue through the end of the year," said Bruce McCain, who helps oversee about $20 billion as head of the investment strategy team there. Mr. McCain is concerned that trading volume has been lighter than would be normal in a true stock rally, reflecting the continuing doubts of many investors. "What we have found the most encouraging is the way so many companies reporting have tended to surprise on the positive side," Mr. McCain said. While the good news is coming more from cost-cutting than from real demand growth, "we would expect as the economy begins to stir, that the reports more broadly would be on the positive side in future quarters," he says. He still worries that the economic recovery could be tepid. But that is something to worry about later, Mr. McCain adds. For now, he is moving money out of cash and into stocks, in a bet that the market will slowly move higher. Write to E.S. Browning at

No comments: