Brace for worst earnings since recession rebound

S&P 500 firms slated to report earnings drop; low-balling is typical

By Wallace Witkowski, MarketWatch

SAN FRANCISCO (MarketWatch) — This earnings season threatens to be one of the roughest since U.S. companies started to pull themselves out of the Great Recession — even if, as usual, results don’t live up to the worst of the gloom-and-doom forecasts.

Revenue streams are drying up as China’s growth slows and Europe reels from crisis to crisis. Companies are finding fewer places to cut costs. It’s looking so bad, in fact, that results won’t have to be that great to inject a burst of optimism into the market. Quarterly earnings season kicks off next week with reports from Alcoa Inc. AA +0.03%  and J.P. Morgan Chase & Co. JPM +0.56%  

On the whole, profits for the S&P 500 SPX +0.05%  in the three months ended in September are forecast to drop 2.6% from the year-ago quarter, according to a FactSet analyst survey. If results match expectations, the quarter will break a streak of 11 straight quarterly gains that reaches back to late 2009, as Corporate America was clawing its way out of a financial crisis and severe recession that ended in June of that year.

Wall Street is likely responding to downbeat cues from companies, who have collectively given one of the most negative earnings outlooks in several years. 

Eighty out of the 103 S&P 500 companies that have given earnings guidance, or 78%, have issued a third-quarter forecast that falls below the Wall Street consensus estimate. That’s the highest negative-outlook rate since FactSet started tracking the data in 2006.

Yet history suggests the quarter will not end up nearly as bleak as these projections. And the downbeat projections may set up the market for a relief rally as the October reports get underway. Even during the peak of the 2007-2008 financial crisis — the third and fourth quarters of 2008 — more than half of S&P 500 companies topped Wall Street estimates.

“That tells you all you need to know about beats and misses,” said Dan Greenhaus, chief global strategist at BTIG.

In fact, over the past four years, 72% of companies have beaten the Wall Street earnings consensus, on average. And 79% of the companies on the S&P 500 beat their own negative outlook on average over the same period, according to FactSet.

“Earnings guidance is a game that everybody plays and nobody acknowledges,” Greenhaus added.

The final earnings result has averaged between 2 to 3 percentage points above the forecast over the past few years, according to FactSet senior earnings analyst John Butters. If that trend extends into the third quarter, the S&P 500 is balanced between a slight loss or an even slighter gain.

A more solid metric is growth over time, Greenhaus said.

And while the past 11 quarters have turned in earnings growth, that growth has slowed dramatically. Earnings rose more than 6% year-over-year during the first and second quarters of this year. These gains followed nine straight quarters of at least double-digit earnings growth, beginning with the easy year-over-year comparisons in the fourth quarter of 2009, when profits doubled.

Global unease

Companies and analysts are taking out more insurance this earnings season because of the high level of uncertainty, according to Doug Roberts, chief investment strategist for Channel Capital Research.

Page 1 Page 2